25 April 2007
Railways Coralled by Winter Weather
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Analysts remain on track in praise of railways'
earnings.
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It seems even Mother Nature can not derail the relentless drive
of the Canadian rail industry.
The country's two largest railways announced first-quarter results this week. While profit was down after a challenging
winter, results provided enough of an optimistic outlook for many analysts to reiterate their claims that the North American freight
rail industry is compelling for investors.
Canadian Pacific Railway Ltd. chief executive Fred Greene said yesterday his operations team had "come through hell" to
deliver an 18% increase in first-quarter earnings year-over-year. CP, Canada's secondlargest railway,
reported net earnings of $128.6 million (82 cents a share), compared with a profit of $108.8 million (69 cents) last year for the same
quarter.
Like its larger rival, Canadian National Railway Co., CP's operations where hammered by winter weather and avalanches that congested
lines and disrupted shipments.
CN's situation was also exacerbated by a 15-day strike in February that, when combined with the weather, helped reduce
its profit for the quarter by 10%.
Still, CN said it would be back on track within a few weeks, that demand was robust, and that it was still aiming for 10% earnings
growth on the year.
The railways ability to rebound lends credence to the claim that the so-called "rail renaissance" is alive and
well in North America.
"We like the fundamentals behind the sector," said Ryan Crowther, an industry analyst with Salman Partners Inc., who remains
bullish on rail stock. "We like the free cash flow generation and the whole underlying pricing trend. It still allows them to put
up EPS growth even if you have talk of slowing volume."
CN upped its projected pricing growth estimates to 4% to 5% for 2007 from its original estimate of 3% to 4% on Monday. CP estimates
between 4% and 6% growth in pricing over the same period.
Adding to their appeal, Canadian railways are increasingly dependent on global trade, as opposed to U.S. economic activity, providing
them with exposure to non-NAFTA economic growth, according to National Bank Financial analyst David Newman.
The importance of which was underlined by CP offsetting its slower volumes this quarter by increased demand for sulphur overseas.
UBS Investment Research analyst Fadi Chamoun estimates CN stock still trades at an 11% and 12.4% discount on its peers and overall
market, respectively. "I think you're getting quality at a reasonable price [at CN]," he said.
Both railroads should be able to demand price increases and produce operating leverage by improving their efficiencies, he said, and
there are only two significant risks to the industry.
If the economic picture changes, resulting in a prolonged slowdown in volume, then the pricing outlook will be called into question.
The second area would be any regulatory changes that would undermine the railways ability to produce incremental returns, like
pricing caps.
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