CP

Business Context and Reporting Period

Company: Canadian Pacific Railway Limited (CPR)

Filing Type: Form 6-K (Report of Foreign Issuer)

Reporting Period: Third Quarter ended September 30, 2003 (and Year-to-Date)

Business Overview: CPR is a transcontinental carrier operating a 14,000-mile rail network in Canada and the U.S. The company reported steady growth in freight volumes, driven by grain, sulphur, fertilizers, and intermodal traffic. Management accelerated track work in Western Canada and added locomotives and freight cars to prepare for a fourth-quarter rebound in bulk commodities.

Key Financial Metrics

Material Changes vs. Prior Period

• Net Income: Q3 net income increased 45% to $94.8 million, primarily due to a significant reduction in foreign exchange losses on long-term debt compared to Q3 2002. YTD net income declined 39% to $226.0 million, impacted by a $228.5 million special charge.
• Foreign Exchange Impact: A 13% appreciation in the Canadian dollar in Q3 2003 reduced revenues by $53 million and operating income by $17 million. YTD, the stronger dollar reduced revenue by $112 million.
• Freight Volumes: Total freight volumes increased 5% in Q3. Grain volumes rose 9%, sulphur and fertilizers up 5%, and intermodal up 2%. Conversely, automotive volumes declined 11% and coal volumes were down 3%.
• Special Charge: YTD 2003 results include a $228.5 million pre-tax charge ($150 million after-tax) for labor restructuring (eliminating 820 jobs), asset impairment of the Northeastern U.S. network, and write-offs of non-beneficial assets.
• Operating Expenses: Q3 expenses were flat at $695.8 million. Fuel expenses remained flat despite a 15% increase in crude prices, aided by hedging and efficiency gains. YTD fuel expenses increased 14% due to high prices and volume growth.

Guidance, Outlook, and Risks

• Outlook: Management anticipates a fourth-quarter rebound driven by a larger grain crop moving off the prairies, robust intermodal business, and a recovery in coal volumes. Accelerated track work is expected to expand capacity for this rebound.
• Operational Investments: CPR added 35 high-capacity locomotives in September (four months ahead of schedule) and plans to expand its grain car fleet by 2,800 cars by mid-November. Intermodal car fleet upgrades are also underway.
• Risks and Contingencies:
  • Foreign Exchange: Continued volatility in the Canadian dollar remains a significant risk to revenue and operating income.
  • Restructuring: Ongoing payments for termination benefits related to the special charge are expected to continue until 2009.
  • Environmental: A provision of $100 million exists for environmental remediation programs.
  • Guarantees: The company has residual value guarantees on operating leases totaling $116.9 million, though the maximum payable amount cannot be reasonably estimated.

Investor Verification Checklist

• Non-GAAP Adjustments: Verify the reconciliation of "Income before non-recurring items and FX on long-term debt" ($99 million Q3) vs. GAAP Net Income ($94.8 million Q3) to understand the true operational performance excluding currency volatility.
• Special Charge Details: Review the breakdown of the $228.5 million YTD charge, specifically the $116.1 million write-down of the Northeastern U.S. subsidiary (Delaware and Hudson Railway) and the timeline for the 820 job reductions.
• Debt Structure: Confirm the impact of the $193.5 million increase in long-term debt resulting from the consolidation of a Variable Interest Entity (VIE) holding rail cars effective April 1, 2003.
• Fuel Hedging: Assess the effectiveness of the hedging program that kept fuel expenses flat in Q3 despite rising crude prices, and its sustainability for the full year.
• Volume Trends: Monitor the recovery of coal volumes and the decline in automotive volumes to gauge the health of key commodity sectors.