Reflections on CNI & JJR: Leader of Pack Again
July 26, 2018
Brill – slang for “brilliant”; also a NYC building housing the songwriters essential to early rock and roll, a joyous loud sound of growth (Splish Splash!)
CN’s Q2 was some kind of wonderful, and their (belated?) decision to remove the “interim “tag on their CEO’s title made Tuesday one fine day, a day worth dancing (a chug-a-chug-a motion like a railroad train, yeah! Come on baby!)...CN stated that as it was coming back from its own particular service/capacity issues, it would seek to be, once again, the leader of the rail pack in terms of performance. They took a major step in that direction by naming their own pack-leader, JJ Ruest. Then they showed that they were ahead of schedule in the turnaround efforts, with another quarter of adding capacity before a year-ending full return to their usual high state of “normal”
You get the picture? Yes, we see: Earlier this week Canadian National reported a stellar Q2/18 – beating last year’s earnings by 13% and consensus by 8%, and reclaiming the crown for industry-low OR (although also feeding the “Cult of the OR” beast). Their OR of 58.2% was actually up 70bps but 150bps was fuel (timing) and, more importantly, 210bps was the YE17 GAP accounting change. CNI’s pricing was up 4% (same store) and 4.4% (renewals), excellent and likely industry-leading. And although the latter is a tad below Q1’s renewal rate gains, CN doesn’t think H1/1overall was merely a magic moment, but one that can last….for some time (ie CN’s – and rails’ – pricing is not at any peak). Sweeter than wine! CNI also raised their FY18 Guidance: the earnings range by 2-4% and volume, as expressed (sigh) in RTMs up 5-7% (from the previous +3-4%, and after H1/18 of +1% and a tough start to Q3 – implying something pretty darn good in the rest of H2/18. CNI also raised their 2018 Capex level by C$100mm (4%) to $3.5B – a fact that did not go unnoticed (see below).
Some begged them to go slow; whether they heard we’ll never know. Look out! Look out! CNI’s fall from service grace at the end of last year was swift, leading to a change in leadership and questions of the CN, and by implication, the entire PSR model (“is that all there is?”). CN’s problems were actually of the best type to have (if you have to have problems at all) – that of too much growth. Yes, as has been alleged, perhaps they over-promised on the service front; perhaps they got cocky. Last year’s 10% volume boom also overwhelmed their western port partners in BC, and caused sharp sniping in the politically charged Prairie Provinces (and also from Alberta oil producers, piling on the downed CN to try to get 1-3 year service, before the pipelines, in a tight-capacity environment. CN – and CP – were right to play a little country hardball with Big Oil Sands). So CN started down the expensive, time consuming but critical path of adding capacity – ordering rolling stock, hiring and training T&E personnel, and, with the seasonal weather improvement, adding sidings etc
And then it happened, it took me by surprise: they showed serious sequential improvement ahead of schedule, velocity up (4%0 and dwell (20%0 down – sequentially) on a quarter that showed fully 6% volume (car-load) growth - and stated that with the new physical network capacity coming on stream, they will pass into the black on a YOY basis in Q4 (and, comparisons aside, return to form in what looks to be a good 2019).
How ya gonna make some time, if you don’t spend one thin dime? The investment community is always nervous about the great expense required to be – and stay – a great railroad, forgetting the advantage spending on their own network gives them over the always under-funded highways and, more importantly, the ROIC they can – and are – earning on that investment. CNI will get out of its service “crisis” (issue) fully within 12 months! They added 60 miles of double-track, 11 new sidings, etc - see the slide below from COO Mike Cory’s portion of the presentation. And – here’s wishin’ and a-hopin’ - if only CNI would tell us the quarterly ROIC (instead of, or along with the OR). And let’s not forget that they are getting price, too – which has improved with the service….
Will you still love me tomorrow? CN and capex – ahh, there was the rub, some thought – and expressed (yackety-yack!) in the Q&A. Yet this capex is the easiest to understand – not only from a defensive point of view (political pressure, shipper angst, etc), but from a an offensive, growth point of view. There is a direct correlation not just to retaining business (ie, protecting the franchise) but to growing it, and at very high levels by industry norms. CN is not yet able to fully meet the extensive demand (intermodal, forest products – despite the tariffs, sand, CBR, grain, export coal), nor, now, are they ready for next year’s anticipated traffic. But they will be….something tells me they’re into something good….
Anthony B. Hatch