DBRS Confirms Canadian National Railway Company at “A” and R-1 (low), Stable Trends

DBRS Limited (DBRS) has today confirmed the Issuer Rating and Unsecured Bonds, Debentures & Notes rating of Canadian National Railway Company (CN or the Company) at “A” and confirmed its Commercial Paper rating at R-1 (low). The trend on all ratings is Stable. The rating confirmations reflect CN’s strong market position and focus on operating efficiency, which has contributed to stronger earnings and operating cash flows (OCFs) despite freight volume decline and more intense competition in 2016. This, in turn, has allowed CN to support larger distribution to shareholders while maintaining financial metrics that are consistent with its ratings. The Stable trend reflects DBRS’s expectation that the Company will remain focused on productivity and have the discipline to maintain its financial profile consistent with its ratings.

Operating conditions for the freight railway industry in 2016 were challenging as volume in the energy and bulk commodity sectors were adversely affected by low product prices while the fundamental decline in coal volume continued. In addition, as fuel prices remain low, competition from other modes of transportation, such as trucking, intensified, particularly for short-haul traffic. As a result, CN reported an approximately 5% decrease in both carloads and revenue. Despite the depressed revenue, the Company generated higher EBITDA and OCF, thanks to continued improvement in productivity and efficiency measures. CN’s operating ratio also improved further to 55.9% in 2016 from 58.2% in 2015. The Company expects freight volume (in revenue ton miles) in 2017 to grow moderately at approximately 3% to 4%, driven largely by higher intermodal volume partly related to port expansions at Vancouver and Prince Rupert expected to be completed in second half of 2017), bumper grain crop and increased fertilizer volume in Canada and expected higher automobile traffic, which should more than offset continued domestic thermal coal volume decline and increasing competition. Despite a more positive outlook, DBRS believes that CN’s continued focus in operating efficiency will remain important in maintaining its market position and cost leadership.

The Company’s stronger cash flow and earnings have allowed it to maintain stable financial metrics consistent with the “A”-rating range for the railway industry, despite moderately higher debt level in 2016 to partly finance increased distribution of $3.2 billion to shareholders and continued elevated capital expenditure (capex) of $2.7 billion. Adjusted cash flow-to-debt in 2016 of 45% and adjusted debt-to-EBITDA of 1.8 times (x) were essentially unchanged from their 2015 levels.

RATING DRIVERS
In confirming the ratings and trend, DBRS recognizes CN’s strong market position, focus on operating efficiency and financial discipline. Going forward, DBRS expects CN to maintain its operational focus while its debt level could increase moderately to finance capex and a possible increase in share repurchases. As a result, the Company’s adjusted debt-to-EBITDA could increase toward 1.8x to 2.0x with adjusted cash flow-to-debt falling toward the 35% to 40% range. While not currently anticipated, DBRS believes that materially weaker financial metrics beyond these ranges could pressure CN’s ratings.

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

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link to the right under Related Research or by contacting us at info@dbrs.com.

The principal methodologies are Rating Companies in the Railway Industry, DBRS Criteria: Commercial Paper Liquidity Support for Non-Bank Issuers, DBRS Criteria: Financial Ratio Definitions and Accounting Adjustments Non-Financial Companies and DBRS Criteria: Guarantees and Other Forms of Support, which can be found on dbrs.com under Methodologies.

The rated entity or its related entities did participate in the rating process. DBRS had access to the accounts and other relevant internal documents of the rated entity or its related entities.

The full report providing additional analytical detail is available by clicking on the link under Related Research at the right of the screen or by contacting us at info@dbrs.com.