Canadian Pacific Railway Limited (CP)

Q2 2011 Earnings Call

July 27, 2011 11:00 am ET

Executives

Jane O’Hagan - Chief Marketing Officer and Executive Vice President

J. Franczak - Executive Vice President of Operations

Kathryn McQuade - Chief Financial Officer and Executive Vice President

Janet Weiss - Executive Officer of Investment Community

Frederic Green - Chief Executive Officer, President, Director and Member of Health, Safety, Security & Environment Committee

Analysts

Walter Spracklin - RBC Capital Markets, LLC

William Greene - Morgan Stanley

Jeffrey Kauffman - Sterne Agee & Leach Inc.

David Newman - Cormark Securities Inc.

Michael Baudendistel - Stifel, Nicolaus & Co., Inc.

Garrett Chase - Barclays Capital

Thomas Wadewitz - JP Morgan Chase & Co

Ken Hoexter - BofA Merrill Lynch

David Tyerman - Canaccord Genuity

Scott Malat - Goldman Sachs Group Inc.

Christian Wetherbee - Citigroup Inc

Keith Schoonmaker - Morningstar Inc.

Benoit Poirier - Desjardins Securities Inc.

Christopher Ceraso - Crédit Suisse AG

Elliott Waller - Jefferies & Company, Inc.

Scott Group - Wolfe Trahan & Co.

Jason Seidl - Dahlman Rose & Company, LLC

Matthew Troy - Susquehanna Financial Group, LLLP

Cherilyn Radbourne - TD Newcrest Capital Inc.

Unknown Analyst -

Presentation

Operator

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Good morning. My name is Matthew, and I will be your conference operator today. At this time, I would like to welcome everyone to the Canadian Pacific Second Quarter 2011 Conference Call. [Operator Instructions] Ms. Wiess, you may begin your conference.

Janet Weiss

Thank you, Matthew. Good morning, and thanks for joining us. The presenters today will be Fred Green, our President and CEO; Kathryn McQuade, our EVP and Chief Financial Officer; Mike Franczak, our Executive Vice President of Operations; and Jane O'Hagan, Executive Vice President and Chief Marketing Officer. Also joining us on the call today is Brian Grassby, our Senior VP Finance and Controller. The slides accompanying today's teleconference are available on our website.

Before we get started, let me remind you that this presentation contains forward-looking information. Actual results may differ materially. The risks, uncertainties and other factors that could influence actual results are described on Slide 2 and 3 in the press release and in the MD&A filed with Canadian and U.S. securities regulators. Please read carefully as these assumptions could change throughout the year. All dollars quoted in the presentation are Canadian, unless otherwise stated. This presentation also contains non-GAAP measures. Please read Slide 4.

Finally, when we do go to Q&A, in the interest of time and in fairness to your peers, I'd ask you to limit your questions to one primary question. As you know, we have a significant number of analysts covering us. If you have any additional questions that have not been answered, you may re-queue, and time permitting, we'll circle back. Here then is our President and CEO, Fred Green.

Frederic Green

Thanks, Janet. Good morning, everyone, and thank you for joining us. This morning CP reported second quarter diluted earnings of $0.75. Weather continue to mask the improvements we're making, and our results reflect a very challenging quarter pressuring both revenues and expenses. On Slide 6 we've included a chart that demonstrates good recovery capability. But the success of nature of events clearly slowed us down. When we spoke at our New York City investor conference, which is denoted by the red star on the chart, we were recovering nicely. We then dealt with the Souris River flooding that left our primary north/south quarter to Chicago out of service for 23 days.

Some good news. Our average daily GTMs have increased by 12% over $700 million, up substantially from the $625 million GTMs, depicted on the last bar in the chart, when our quarter was reopened and similar to the gray bars in the week following the New York City event. Mike will add more color on our current metrics, which is very encouraging. It's been an extraordinary first half, and while we're all frustrated, the level of commitment has been outstanding.

Marketing has been proactively working with customers, communicating and problem-solving. Operations has been extremely nimble in implementing the reroutes and detours, and engineering has been truly exceptional in their efforts to sustain and rebuild the parts of the network impacted by flooding.

As of July 12, our entire network was back in service. We're positioned and ready to deliver second half earnings growth and productivity improvements. As you'll hear, we're ready for solid growth, resource to deliver service and have incremental locomotives and new hires coming on stream. Now I'll turn it over to Kathryn, Mike and Jane to provide more color on our results and outlook. Over to you, Kathryn.

Kathryn McQuade

Thank you, Fred, and good morning, everyone. The quarter was hampered by the residual effects of this year's difficult winter and prolonged flooding along our railway. The flooding and multiple outages dragged on operational metrics resulting in lower train speeds, car miles per car day and the higher cars online. The conditions reduced operational capacity and consume the resources we had in place to move our business.

As a result, productivity and asset utilization lagged typical second quarter norms, and our operating ratio remained well above our expectations. As you will recall, we did have a major flooding event in the second quarter last year. However, the event was very different. It was a single event where a flash flood took out a portion of our mainline for 11 days. In contrast, this year, multiple flooding events hampered operations throughout the quarter. In fact, we had some part of our network down for 60 out of the 90 days of the quarter.

Quantifying the financial impacts of these prolonged, abnormal operating conditions is not an exact science. In a network business, once assets flow, costs come on. Quantifying the revenue loss or deferral is even more complex. Portions of our car load in Intermodal business temporarily found alternative routes. Both business is typically considered deferred, but in the case of strong grain markets, it can and will go to other elevators.

On balance, we would've expected our carloads to be up about 3% and in-line with the average car loadings of the other Class Is before considering the loss of our short-haul coal movements that we've spoken to previously.

Please turn to Slide 8, where we have quantified the direct costs attributable to flooding. The impact of flooding and compensation and benefits was similar to last year with higher crew starts and over time. Total fuel consumption was higher by $5 million due to the start/stop operations from staging trains and extra miles from reroutes and detours.

Purchase services was flat to last year's flood impact and reflects $4 million in cost, largely due to the payments to other rails for detours. Equipment rents were slightly higher due to reduced asset velocity. In total, we estimate direct flood-related expenses were $16 million higher or $7 million more than last year's single event.

Let's move on to earnings on Slide 9. Looking at the FX adjusted column on the right, total revenues were up 5%, with price, mix and fuel surcharge revenues offsetting lower carload volume. RTMs were 2.5% higher, and Jane will provide more detail on our mix changes. Operating expenses were up 10% and operating income was down 14%.

Moving below the line. Interest expense and other income net were lower. Income tax expense was essentially flat with an effective tax rate of 26%, which is within our guidance. Last year, the rate was 22%, reflecting a tax recovery on foreign exchange on long-term debt. Net income was down 23% to $128 million, and diluted earnings per share were $0.75 or lower by 23%. The operating ratio deteriorated to 81.8%. This quarter, the Canadian dollar strengthened to $1.03 and reduced EPS by $0.02.

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