DBRS Confirms Canadian National Railway Company at A (low)

DBRS has today confirmed the long-term debt and Commercial Paper ratings of Canadian National Railway Company (CN or the Company) at A (low) and R-1 (low), respectively. The trends are Stable. The confirmation reflects a strong business profile as the only North American railroad with east-west routes in Canada linking north-south routes to the Gulf of Mexico and an operating ratio (below 65%) that leads all North American Class 1 railways by a wide margin. In addition, the Company’s financial profile continues to show improvement year over year with metrics that remain compatible with the rating. Going forward, we expect the Company’s conservative financial policies and solid rail fundamentals (pricing power, strong cash flow generation, moderate volume increases) will keep CN’s rating stable in the near to medium term.

CN’s revenues and EBITDA continued to grow at a solid pace in 2011 compared with 2010, driven by price increases, higher volumes and ongoing efficiency initiatives partially offset by forex headwinds. The Company benefited from an improving global economy which resulted in volume increases across all of CN’s segments. Stronger earnings performance led to significant cash flow generation, which was more than ample to cover high levels of capex spending and increased dividends. In addition to generating almost $1.4 billion in net free cash flows, the Company used proceeds from asset sales, cash on hand and raised debt to fund its significant share buyback program and voluntary pension contribution. Even though the Company used a considerable amount of cash during the year, CN’s liquidity position (cash and availability under credit lines) was solid at the end of 2011 (i.e., sufficient to cover upcoming 2012 and 2013 maturities). Strong earnings helped absorb the modestly higher debt levels, keeping CN interest and debt coverage metrics in line with the rating.

The Company has forecasted North American industrial production in 2012 to grow at around 3 percent, which is expected to partially drive mid-single digit volume increases. This, coupled with inflation plus pricing and ongoing efficiency gains (such as network velocity, train and fuel efficiency), should help drive a solid EBITDA growth in 2012. Productivity initiatives should accommodate volume growth at lower incremental costs, and help maintain the operating ratio at near current levels. DBRS expects that margins will continue to be pressured by the strong Canadian dollar and a higher pension expense for the coming year.

In line with higher earnings, DBRS projects CN will generate strong free cash flows, which we expect to be used for the recently announced 17 million share repurchase program and pension contributions rather than for any significant debt repayment (outside of upcoming maturities). DBRS expects the Company to be committed to maintaining conservative financial policies; accordingly, the Company will be judicious in its share buyback activity in order to keep credit metrics at levels commensurate with the rating in the near to medium term.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The applicable methodology is Rating Companies in the North American Railway Industry, which can be found on our website under Methodologies.