18 November 2008
Opinion: The Benefits of CP Rail Stock
Today I initiated a new position within my
non-registered portfolio in Canadian Pacific Railway (CP) at $39.94. CP is a transcontinental railway that transports
bulk commodities, merchandise freight, and intermodal traffic.
Why A Railway?
One of the most compelling reasons to invest in a railway is the fact that by their nature they possess incredibly high barriers to
entry. What is meant by this is that railways and the rail industry have characteristics that act as barriers to other potential
competitors entering. How many North American entrepreneurs will have the desire to build a cross country railroad anytime soon?
Other attractive features of investing of railways include their fuel efficiency vs. trucking (1/4 cost advantage), hauling coal over
long distances belongs to the rails, increased trade with Asia mean longer distance runs, truck driving hour regulations, innovations
like double stacked and computer guided cars are making rail even more competitive with trucking. Thanks to the monopolistic nature of
railroads they also have serious pricing power.
Why Canadian Pacific?
- Canadian dividend tax credit makes CP more attractive for me than U.S. names;
- Canadian National Railway (CNI) is a much more expensive stock.
Why Now?
I've wanted to own a railway for a few years now but I have never been able to justify a purchase based on the richness of the stock
valuations. CNI and CP have traded well over 12x earnings for much of the last few years as the economy grew at a reasonable pace. Now
that economic activity and commodity prices have really started to sputter, so has CP's share price. Here are the specifics that
really got me interested:
- P/E ratio of 8x earnings;
- Dividend yield of 2.5%;
- Price to Book ratio of 1.1x;
- Dividend Payout ratio is under 15%;
- Return on Equity is 18%;
- Stock last traded at these levels in early 2005.
Compare these numbers with CNI, and the two stocks are not even in the same rail yard as far as valuations go.
I really like the idea of owning CP for the long term because this railway is really tied into Western Canadian commodities, including
agriculture, while at the same time the company by nature should experience much less volatile earnings than an actual commodity
producer would. CP is an extremely boring business that should continue to stay on-track with growing long term earnings
and dividends.
Disclosure: The author owns CP.
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