TSX Commentary

Veritas Research: Canadian Pacific Railway (CP) – $54.41 – CP’s Q4: Soft on Prices, but Strong Operationally
Sell, Intrinsic Value Estimate: $51.70
In an otherwise very strong quarter, management’s guidance on price was less than inspiring. The majority of fourth quarter prices came in at 4%, however the final tally on price and mix was 2%. The decline was driven by the Teck contract, the Canadian grain rate settlement and fuel index adjustments. Veritas believes that barring improvements to the Teck contract, CP seems likely to achieve no better than 3-4% pricing in 2010. This is less than expectations and presents further downside to the current valuation. However, Veritas has reduced its intrinsic value estimate given the progress the company has made on other fronts and the likelihood that this quarter is a one time event. Nonetheless, pricing softness continues to be a key risk for CP. CP delivered very strong operating results in what is normally a tough quarter. Similar to Q3, fuel productivity was at record levels, up over 6% compared to last year. In this case, sequential changes have less meaning since the winter quarters are more fuel intensive. Labour efficiency was also strong, up from last quarter by over 5% and in line with expectations. Going forward this remains a key metric to watch as additional bulk business (coal and potash) will require more employees and train starts. Despite surprisingly strong results on cost management and the potential for increased FCF due to capex reductions, Veritas believes pricing uncertainty and the risk that CP’s bread and butter – coal and potash – surprise to the downside, handily offset the aforementioned positives. Veritas maintains its intrinsic value estimate and plans on following up in due course.