Zacks_Analysts' Blog : Canadian Pacific Remains Neutral - Analyst Blog

The persistent effects of inclement weather continue to hurt operations of Canadian Pacific Railway Limited (CP), resulting in reduced shipments and higher operating costs.

Similar to its first quarter results, the company’s second quarter registered declining service metrics that led to lower-than-expected results. However, we expect the company to recover and deliver strong performance in the balance of 2011 as these weather-related headwinds recede.

The company also expects operating metrics to recover from lower levels as flooding impacts ease off going forward. Canadian Pacific remains committed to generate an operating ratio in the low 70s over the next two-to-four years. Additionally, the above-inflation pricing strategy, estimated in the range of 3% to 4% and higher fuel surcharges are expected to aid revenue growth in 2011 and beyond.

Further, Canadian Pacific will continue to benefit from favorable market fundamentals in Coal and Intermodal segments. The company’s 10-year coal transportation contract with Teck Resources Limited (TCK) and strong rising export demand for metallurgical coal as well as supply constraints in the international markets bode well for long-term growth in Coal transport. We also expect continued strong domestic Intermodal shipment, owing to truckload conversions to rail Intermodal.

Going forward, Canadian Pacific remains focused on improving its network capabilities through planned investments in infrastructure. The company will invest approximately C$950 million to C$1,050 million in capital programs, which we believe will improve its route structure and network as well as raise the declining operational efficiency.

However, Canadian Pacific remains exposed to strong competition in  the freight transportation market in Canada and the U.S., primarily from railroad companies like Canadian National Railway (CNI), which operates on almost the same network. 

In addition, Heavy investments in new locomotives, technology and fuel recovery initiatives failed to deliver strong results given continued weather disruptions in the recently concluded quarter. The company projects a cautious outlook on the international intermodal business as it expects modest growth in retail sales attributable to surplus capacity and lower inventory replenishment in the Asian market.  Further, fuel price volatilities are also expected to weigh on the company’s near-term results.

Consequently, we currently maintain our long-term Neutral recommendation on Canadian Pacific supported by the Zacks #3 Rank (Hold).