CN: ‘Strong’ 2Q21, Voting Trust Answer Expected Soon
The rise in revenues was mainly due to higher volumes across most commodity groups, CN reported on July 21, adding there was “notable strength in industrial products, international and domestic intermodal, and propane.” That growth, CN said, was “due to the continued economic recovery and freight rate increases; partly offset by the negative translation impact of a stronger Canadian dollar and lower export volumes of Canadian grain.”
Among CN’s second-quarter 2021 financial highlights:
• Operating income of C$1.382 billion, an increase of 76% from second-quarter 2020, or 9% on an adjusted basis (non-GAAP).
• Diluted earnings per share (EPS) of C$1.46, growing 90% from second-quarter 2020, and adjusted diluted EPS of C$1.49, rising 16%.
• Operating ratio of 61.6%, an improvement of 13.9 points, or an increase of 1.2 points on an adjusted basis.
• Operating expenses fell by 9% to C$2.216 billion, “mainly driven by the C$486 million loss on assets held for sale recorded in the second quarter of 2020, as well as the positive translation impact of a stronger Canadian dollar; partly offset by higher fuel costs and higher incentive compensation.”
CN reported improved operating performance for the three-months ended June 30 vs. the comparable period in 2020. Train length (in feet) fell by 2%; through dwell (entire railroad, hours) improved by 8%; car velocity (car-miles per day) improved by 4%; and through network train speed (mph) decreased by 2%.
“In 2020, CN took exceptional measures and made changes to its operating plan (i.e., building longer and heavier trains) due to the sharp retreat in volumes and the unknown duration and effects of the pandemic,” the railroad said. “As the economy rebounded from the COVID-19 pandemic, CN reverted to its standard operating plan, which focuses on car velocity and through dwell.”
CN also reaffirmed its 2021 financial outlook. It said it is still targeting “double-digit adjusted diluted EPS growth, versus 2020 adjusted diluted EPS of C$5.31 [non-GAAP] and continues to assume high single-digit volume growth in 2021 in terms of RTMs.” Additionally, it is still targeting free cash flow “in the range of C$3.0 billion to C$3.3 billion in 2021 compared with C$3.2 billion in 2020.”
“CN continued to deliver strong operating and financial performance in the second quarter, driven in large part by the dedication of our people and the ongoing long-term investments we are making in our network, equipment, technology and talent,” CN President and CEO JJ Ruest said. “We enter the second half of 2021 focused on executing for our customers and leveraging our strong network performance to safely and sustainably drive long-term value creation for all of our stakeholders. Our proposed combination with Kansas City Southern has received overwhelming support from a broad base of stakeholders because it will enhance competition and drive economic growth in North America. We are confident in our ability to obtain the necessary approvals and successfully close this pro-competitive combination, and look forward to delivering the many compelling benefits to customers, employees, labor partners and the communities in which we operate.”
On July 6, CN and KCS submitted to the Surface Transportation Board (STB) a reply to comments filed on the railroads’ voting trust agreement. CN reported during its July 20 earnings announcement that the filing “demonstrates that our proposed voting trust satisfies the STB’s test: 1. It precludes premature control of KCS during the trust period; and 2.Approval of the proposed voting trust is in the public interest and causes no harms. CN and KCS respectfully look forward to a positive response from the STB on our voting trust and are fully committed to working towards a successful closing of our transaction.”
Cowen Insight: ‘All Eyes on Voting Trust as We Head Into 2H21’
“CNI [CN] reported a second-quarter OR that fell below our forecast, driven by elevated costs and lower than expected top line,” reported Cowen and Company analysts Jason H. Seidl (Managing Director and Railway Age Wall Street Contributing Editor), Matt Elkott and Elliot Alper. “We revise our second-half 2021 assumptions to reflect solid volume outlook, increased costs, and impacts from recent line closures in Western Canada due to wildfires. Our PT goes to $110 from $114 and reiterate Market Perform with our eyes remaining on the STB for a decision on the KSU [Kansas City Southern] voting trust.”
Cowen’s Key Takeaways:
• “CNI reported 2Q adj. EPS of $1.49 CAD, in line with our estimate and the consensus figure of $1.48 CAD. Revenue in the quarter came in below our expectations as grain volume decreased sequentially (which we expect to continue to fade somewhat through the rest of 2021), as well as Petroleum & Chemicals, which posted a sequential decline. Automotive grew sequentially but declined y/y as management cited the chip shortage continues to negatively impact this segment. Adjusted OR in the quarter was 61.6%, worse than our estimate of 60.0% (partially due to higher fuel costs in the quarter).
• “Management reiterated its full-year 2021 guidance, which calls for double-digit adjusted EPS growth, which insinuates a very strong back half of the year (we note this back half weighted guide is exactly how KSU framed its guidance). We remain cautious on the back half of 2021, given the wildfires in B.C. that are notably affecting carloads (our carload volume suggests -7.0% QTD), as well as an uncertain COVID backdrop. We believe there may be a scenario where CNI will revise its 2021 guidance downward if trends do not normalize; we are currently modeling CAD EPS growth of 9% for 2021, which would be slightly below the low end of management’s double-digit guidance. OR for CNI has been trending upward over the past several years, and our new OR assumption for 2021 is 62.2% (compared with 61.9% in 2020), despite management’s comments earlier in the year that they would ideally like to post a sub 60 in 2021.
• “The fires in Western Canada led to a lost bridge between Kamloops and Boston Bar from June 30 to July 13, which averaged 25 trains a day, creating substantial backlog for CNI. The extreme fire danger is also causing orders that call for reduced train speeds in certain regions. Management anticipates the fire-related impacts will be recovered over the next few weeks; the company refrained from commenting on any potential impact in the third quarter. We will continue to monitor the ongoing fires and impacts to CNI’s carloads.
• “While a large portion of the call focused on the pending merger with KSU, management optimistically and cautiously answered questions relating the Executive Order and the current thoughts of the STB, offering a positive tone to a situation both CNI and KSU may be worried about, given the potential extended timeline and its effect on deal probability. At the end of the call, Mr. Ruest stated that he believed we should know the outcome in the next couple of weeks, “sometime in late July, early August,” compared with KSU’s commentary that it will be in the second half of 2021.” (Read more in our July 16 story, “Cowen: Biden’s EO a ‘Laundry List.’”)
• “We adjust our 2021 and 2022 EPS estimates to $4.66 USD from $4.85 USD, and $5.25 USD from $5.45 USD, respectively. We maintain our 21x multiple while using our new 2022 EPS estimate, which reflects our new price target of $110, down from $114. Reiterate Market Perform.”
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