Canadian Pacific Railway Ltd.’s turnaround may be on track with its high-profile executive in the driver’s seat, but some investors prefer rival Canadian National Railway Co. instead.
CN has more solid growth prospects right now, some analysts and fund managers say, while CP’s cost-saving measures with chief executive Hunter Harrison at the helm are still being tested.
“I am very much a CN fan and not a CP fan,” David Cockfield, managing director and portfolio manager at Northland Wealth Management said.
While CP has outperformed CN on the market over the past year, “I think it’s overshot in terms of what it can do,” Mr. Cockfield said. “There is only so much you should pay for future improvement, and I think the market is overpaying as far as CP is concerned.”
CP shares have risen by about 76 per cent on the Toronto Stock Exchange since Mr. Harrison took the CEO role in mid-2012, following a boardroom battle led by activist investor Bill Ackman as part of a push to improve shareholder returns.
That compares to a 24-per-cent jump in CN shares over the same period. CP has also outperformed CN over the past five years, up by about 175 per cent versus 132 per cent. While some analysts still believe CP has more room to run as its restructuring continues, others believe more growth will come from CN. Analysts point to CN’s demonstrated ability to pick up more business, including winning over a handful of clients from CP over the past couple of years.
“Recent market share gains, favourable customer feedback and strong execution have made us increasingly confident in CNR’s revenue growth potential out to 2015,” RBC Dominion Securities Inc. analyst Walter Spracklin said in a note on Monday. He raised his CN price target to $120 (Canadian) from $99 and increased his target to “outperform” from “sector perform,” forecasting a 12-per-cent annual earnings-per-share growth over the next two years.
That compares to the “underperform” rating Mr. Spracklin has on CP stock, which he reiterated on Monday, while also lowering his third-quarter estimates by 6 cents to $1.69 per share.
“The key message here is that we consider the significant deceleration in volumes at CP to be at odds with the premium valuation that is being awarded the shares,” he said.
CP’s near-term growth prospects depend on two large international intermodal contracts up for renewal later this year, which Mr. Spracklin said in a recent note will be the “litmus test” for its new management team.
Others believe CP can continue to bring strong returns for investors. “I would prefer the company that is the upper and comer, that has more room to improve off of a weaker base,” said Citigroup Global Markets Inc. analyst Christian Wetherbee, who has a “buy” rating on CP and a “neutral” rating on CN.
Jason Seidl, an analyst at Cowen & Co., thinks CP has “more juice to squeeze out of the orange.”
Still, he has a hold on both Canadian railway companies right now as he waits for improvements in the business he expects will come in the fourth quarter.
Overall, he says both companies still have strong pricing power and room for operational improvements.
Comparing the two investments, both have valuations between about 15 and 16 times next year’s projected earnings, and a yield of between 1.1 and 1.6 per cent, according to data from S&P Capital IQ.
A risk for investors may be if competition between the two gets too stiff.
“You don’t want them undercutting each other to try to win business all of the time. That historically, when you look at the rail industry, hasn’t been a way to improve earnings,” Cowen’s Mr. Seidl said.