(The following story by Brent Jang appeared on the Globe and Mail website on July 24.)
TORONTO — Canadian National Railway Co. has considered breaking itself up into real estate and train operating entities, but doesn’t see any compelling reason to undergo such a conversion, CN executives say.
CN’s revelation yesterday came after it cautioned that its profit growth this year will be 5 per cent, lower than its forecast of more than 10 per cent, slowed by headwinds such as labour strife, a forest industry slump and native blockades.
CN’s decision to reject splitting its corporate structure into two major pieces comes amid investor speculation that rival Canadian Pacific Railway Ltd. could become a takeover target. Under one proposal from a group led by Brookfield Asset Management Inc., CPR would be divided up into a real estate division that owns the tracks and a separate entity that runs the trains.
Toronto-based Brookfield sought to buy CPR in April, and while the railway rebuffed that offer, industry experts expect a bidding war for the Calgary-based company.
CN said that radical restructuring may be seen as attractive in some circles, but the Montreal-based railway delivered a simple message: Breaking up is hard to do.
“Quite frankly, our analysis – unless we’re missing something – would show that even at very rich valuations for the real estate, there is just no compelling case from an economic standpoint,” CN chief financial officer Claude Mongeau said.
Mr. Mongeau didn’t say when CN conducted its latest internal analysis, but noted that the railway regularly reviews its corporate structure, including after Ottawa disclosed plans last fall to tax existing trusts in 2011.
“More recently, we looked at the idea of splitting the operating and infrastructure” assets, he said during a conference call with analysts. “When you review it in detail, you realize that there is a lot of leakage from an economic standpoint, tax recapture, transfer taxes for the actual splitting of the asset.”
CN chief executive officer Hunter Harrison said his railway wouldn’t be harmed if CPR were to separate its infrastructure assets from train operations.
“The basic scheme is just like a sale-leaseback. It’s the same infrastructure that you’re talking about,” Mr. Harrison said. “I don’t think it’s going to impact us negatively.”
CN said it experienced a “difficult start in the first half of 2007.”
Woes have included the rising Canadian dollar, labour strife, weakness in forest products shipments and delays on tracks. For instance, the line to the Port of Prince Rupert in B.C. was shut down for about a week after a June flood and there were two native blockades of CN’s busy Montreal-Toronto freight line.
Canada’s largest railway now “expects full-year, adjusted diluted earnings per share growth of about 5 per cent, compared with the earlier growth forecast of 10 per cent plus.”
CN, which runs a continental rail network that extends to the Gulf of Mexico, reported its second consecutive quarter of lower profit.
In the second quarter, CN’s profit was $516-million, down 29 per cent from $729-million in the same period last year, when there was a $250-million income tax gain from lower corporate tax rates. Excluding one-time items, CN’s latest share profit was 95 cents, surpassing analysts’ expectations by three cents.
CN’s operating ratio – a key indicator of productivity that measures operating costs as a percentage of revenue – was 60 per cent in the latest quarter, compared with 59.8 per cent a year earlier. A lower number is better, but given recent challenges, Mr. Harrison said he’s pleased with the railway’s performance.
Mr. Harrison also welcomed an arbitrator’s decision to choose CN’s offer to form a new collective agreement with the 2,800-member United Transportation Union, which represents conductors and yard workers.
Government-appointed arbitrator Andrew Sims selected CN’s proposal over one submitted by the UTU, which staged a 15-day strike in February. Back-to-work legislation, passed by Parliament in April to end rotating strikes that surfaced in the spring, cleared the way for “final offer selection” by the arbitrator.
UTU members will receive wage increases amounting to 3 per cent annually during the three-year contract, as well as a lump sum payment of $1,000 for each worker.