Valued at a market cap of $99.5 billion, Canadian Pacific Kansas City (TSX:CP) is a railroad giant that operates a 13,000-mile freight railway network across Canada and the United States. It transports bulk commodities like grain and potash, merchandise freight including automotive and forest products, and intermodal retail goods in containers. The company connects major business centers from Quebec to British Columbia and the U.S. Northeast and Midwest.
CPKC stock is down 13.5% from all-time highs and has trailed the broader markets in the past year. However, since its initial public offering in August 2001, the TSX stock has returned 2,300% to shareholders after adjusting for dividends.
As past returns don’t matter much to current investors, let’s see where CPKC stock will be in three years.
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Is CPKC stock a good investment right now?
Canadian Pacific Kansas City delivered strong results despite labour challenges in recent months. In the third quarter (Q3) of 2024, it reported revenue of $3.5 billion, up 6% year over year. Its operating ratio stood at 62.9%, while adjusted earnings per share grew 8% to $0.99.
The operating ratio is an efficiency metric used in the railroad industry and showcases the relationship between revenue and operating expenses. An operating ratio of 62.9% suggests that CPKC spends $0.63 for every dollar in revenue, leaving $0.37 as the operating profit.
Canadian Pacific Kansas City emphasized that the auto segment drove the top line, growing 27% year over year as volumes rose by 37%. Other commodities that experienced strong demand were energy, chemicals, plastics, and grains.
The bull case for Canadian Pacific Kansas City stock
Canadian Pacific Kansas City has forecast core adjusted earnings to grow by double-digits year over year in 2024. It also expects mid-single-digit volume growth and aims to maintain a leverage ratio target of 2.5 times by the end of Q1 of 2025.
The key driver of a company’s stock price is its steady earnings and cash flow growth, which depend on margin improvements. CPKC’s gross margins have expanded from 45% in 2014 to 53.6% in the last 12 months. In this period, the operating margin has grown from 35.3% to 39.7%, while the free cash flow margin has risen from 10.2% to 14.4%.
Analysts tracking the TSX stock expect adjusted earnings to grow from $3.84 per share in 2023 to $5.7 per share in 2026. Comparatively, free cash flow is estimated to climb to $4.5 billion in 2026, up from $1.66 billion in 2023.
Today, CPKC stock is priced at 27.5 times trailing earnings. If it maintains a similar multiple, it will trade around $154 in January 2028, indicating an upside potential of almost 50% in three years.
In addition to capital gains, investors will benefit from regular dividend payouts. Currently, CPKC pays shareholders an annual dividend of $0.76 per share. Its dividend payout has more than doubled in the past decade. Given its outstanding share count, CPKC’s dividend payout ratio in 2024 is less than 40%, which is sustainable across market cycles.
The Foolish takeaway
Canadian Pacific continues to demonstrate why it’s a compelling investment in the railroad space. Its vast network allows the company to enjoy a wide competitive moat. Further, focusing on operational efficiency improvements and strategic growth initiatives provides multiple avenues for long-term growth.
