January 26, 2012 / 1:32 PM / in 6 years

Canadian Pacific operating efficiency weakens

(Reuters) - Canadian Pacific Railway CP.TO said on Thursday an important measure of operating efficiency weakened in the fourth quarter even as profit jumped, a trend that will likely fuel demands by CP’s largest shareholder for a new CEO at the country’s No. 2 railroad.

CP’s shares dipped after the company reported its operating ratio worsened to 78.5 percent in the quarter from 77 percent in the year-earlier period. The higher the ratio, which measures operating costs as a percentage of revenue, the less efficient the railway.

For the full year, CP’s operating ratio was 81.3 percent, compared with 77.6 percent in 2010. Canada’s largest railway, Canadian National Railway CNR.TO, reported a 2011 operating ratio of 63.5 percent.

On this measure, CP is one of the less efficient of the major North American railways, a main reason why William Ackman’s Pershing Square Capital Ltd wants CP to name Hunter Harrison, a former CNR CEO, as its new chief executive.

“Pershing Square believes that CP can produce an operating ratio of 65 percent by 2015, which we have previously suggested is probably an overly optimistic goal,” said National Bank analyst Cameron Doerksen in a note to clients after the results.

CP reiterated its plans to drive down its operating ratio within three years, and refined the target to 70-72 percent from what was previously pegged as the “low 70s”.

CEO Fred Green said that his target was based on driving volume growth and expanding network capacity, while controlling costs over the next three years. He said that an operating ratio of 65 percent by 2015 is not a feasible target.

CP’s trains battle with steeper mountain grades than CNR’s do, and the company has heavy exposure to a single big customer, diversified miner Teck Resources TCKb.TO.

“There are clearly ... substantial differences in the structural make-up of different railroads,” Green said during a conference call. “It is unrealistic in these time frames, in our view, to get to those numbers.”

Ackman was not immediately available to respond.

Ackman’s Pershing Square, which holds 14.2 percent of CP’s shares, is pushing to instate Harrison as CEO, hoping the man who helped engineer a turnaround at CNR by making the trains run on time and holding even the lowest-ranking employees accountable for problems, can do the same for CP. [ID:nL1E8CDC6F]

CP is backing Green to stay on as chief executive as the railway continues its multi-year restructuring plan, setting the stage for a proxy battle with Pershing.

Shares of CP were down 1.19 percent at C$70.80 at midday on Thursday on the Toronto Stock Exchange.


The company’s net income rose to C$221 million ($221 million), or C$1.30 a share, in the three months to end-December, from C$186 million, or C$1.09, in the same period in 2010. The latest result reflected an income tax benefit of 22 Canadian cents a share.

Analysts, on average, expected earnings of C$1.09, according to Thomson Reuters data, one Canadian cent higher than the diluted EPS excluding the income tax benefit.

Revenue rose 8.8 percent to C$1.4 billion, in line with expectations.

“If I had to characterize the quarter, I would suggest that it was probably relatively in line with our expectations,” said Raymond James analyst Steve Hansen. “Revenue was strong, but expenses were a bit higher than expected.”

Analysts noted that CP’s fourth quarter was boosted by record fuel efficiency and train weights.

Offsetting the operational gains were compensation and benefits expenses, up 7.5 percent in the quarter, and higher fuel costs, which rose 32 percent.

With the positives balancing the negatives in the quarter, the financial results will likely provide ammunition for both parties in the proxy battle, RBC Capital Markets analyst Walter Spracklin wrote in a note to clients.

“The evolution of the shareholder activism saga will take center stage and be the key driver to near-time share price performance, in our view,” he said.

Additional reporting By Nicole Mordant; Editing by Frank McGurty and Peter Galloway

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