Canadian National Railway (TSX:CNR) (NYSE:CNI) is one of the true blue companies listed on the Canadian public market. This company has delivered exceptional value to shareholders over the past decade, with a share price that increased on average by 15% per year and a dividend that has grown, on average by 18% annually.
This performance was considerably better than the overall Canadian stock market, which produced a price return of only 4% over the same time period. However, this is history and we have to consider whether the company will be able to deliver a similar performance in the future.
An operational machine that sets industry standards
Harrison Hunter became the CEO of Canadian National Railway in 2003 and departed in 2009. Operational and financial performance of the company improved considerably during that time. The good work was continued afterwards by his successor, Claude Mongau, to a point where the company sets the standards in many respects for North American Class 1 railroad operators.
To illustrate the progress of the company since 2003, consider the following:
- The operating ratio (the portion of revenue that is required to cover operating expenses) improved from 69.8% to 63.4%
- Operating cash flow as a percentage of sales improved from 26% to 34%
- Free cash flow generated over this period totalled $13.3 billion
- Return on assets improved from 4.1% to 9.2%
- Earnings per share improved by 15% per year on average
Investors in the stock of the company were richly rewarded with an average stock return of 15% per year over the 11-year period as well as a consistent and growing quarterly dividend.
The most recent results indicate that the well-oiled machine continued to function smoothly, with earnings per diluted share increasing by 9%. Revenues increased by 7% and car loadings were up by 3% for the full year with positive revenue growth from all major categories. The star performer was the petroleum and chemicals category, which increased revenue by 16% and carloads by 3%.
However, there were some areas for concern on the cost side: operating costs increased by 8% over the year fuelled by a sharp increase in labour costs especially during the last quarter. As a result the key operating ratio deteriorated from 62.9% to 63.4% for the year and to 64.8% in the last quarter. This will be watched closely in the year ahead.
The company indicated that it expects another good year in 2014 with double-digit earnings per share growth and a 16% higher dividend payment (already approved by the board). Key risks to these forecasts include a deterioration in the U.S. home building and auto industries, U.S. and Canadian grain crops lower than currently expected and a continuation of the extreme weather conditions experienced in January.
Foolish bottom line
Railroads, with their high barriers to entry and low-cost freight transport characteristics, are a great business and Canadian National Railway has done particularly well in that environment. However, the company is now trading on a 2013 price to earnings ratio of 19.2 times, which places it a considerable premium relative to its peers and its own history.
This is a company with a strong franchise, a great operating performance and another decent performance is expected in the year ahead. But, great companies do not necessarily make for great investments – I would therefore prefer to wait on the side lines for a more attractive pricing point prior to investing.
