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Dividing the rails: How CN is winning market share from CP

Turmoil and fierce competition at the Vancouver port are reshaping the businesses of Canada's two major railways.

Canadian National Railway Co. has outbid Canadian Pacific Railway Ltd. on container-handling contracts for two big Asian shipping lines, Orient Overseas Container Line (OOCL) and Yang Ming Marine Transport Corp. And, amid port congestion and delays that left ships waiting, CP has stopped handling the freight of some shipping companies on the south shore of Canada's busiest port, ending a long-standing practice in which the two railways split the rail switching duties between them.

Steve Hansen, a Raymond James stock analyst, calls it a "great divergence" of the rail rivals, although one that will narrow in the coming quarters.

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Keith Creel, chief executive officer of Calgary-based CP, attributed the lost Vancouver bids to "pricing discipline" and said on a conference call in January that markets should expect CP's international container revenue to be "slightly" lower in the first quarter of this year.

"Yang Ming is gone, so that's a headwind, but we will offset about $40-million of that $60-million loss with initiatives," Mr. Creel said. "So we are still going to see some growth. It's just going to be muted by the Yang Ming loss and the lack of the … OOCL win.

"But on the domestic side, which is where our network really thrives, the strength of our network is, as we continue to grow and outpace the industry, you will see more of that growth on the wholesale side as well as working with our domestic partners cross-border in that Montreal, Toronto to Chicago lane."

CN is winning market share from CP because its superior network can link shipping customers at three coasts with more U.S. destinations, said Christian Wetherbee, a transportation stock analyst with Citigroup Global Markets.

Vancouver is one of North America's most important freight gateways to Asian markets, home to major exporters as well as buyers of Canadian grain and other food.

"Currently, 50 per cent of the inbound containers CN moves from Canadian ports are destined for the U.S., which is up from [about] 30 per cent a few years ago," said Mr. Wetherbee, adding that the port of Prince Rupert, B.C., at which CN is the only railway, will increase its capacity more than 50 per cent by the summer. Vancouver, meanwhile, is also adding capacity in the next few months.

"The company has been successful at both taking market share and opening up new markets," said Mr. Wetherbee, who recently raised his profit and share-price targets for CN.

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The number of containers CP has hauled in its international business fell 20 per cent in the first week of January, and has declined in 11 of the 12 weeks up to March 25, compared with the same period a year earlier, according to company data.

Another key measure of a railway's performance are revenue ton miles – how much the railway collects to pull one ton one mile. CP's revenue ton miles are flat in the three months ended April 1, compared with the year-earlier period, buoyed by strong shipments of potash, metals and U.S. grain. CN's revenue ton miles, meanwhile, rose by 15 per cent in the same period, according to company data.

CP has posted a string of record profits since new management took over in 2012, even as the carrier lost major container customers, including Mitsui OSK Lines and APL Ltd.

(CP this month stopped separately reporting revenue and carloads for containers from international markets, and now combines them with domestic cargo boxloads.)

Analysts have been reducing their expectations for CP's profit and raising CN's when the companies report first-quarter results this month. CP's net profit will be 2.4 per cent lower than the year-earlier quarter, while CN's will rise by 8 per cent, according to a Bloomberg survey of analysts. CP's share price has risen 5 per cent over the past 12 months; CN's stock is up by 20 per cent, outperforming the S&P/TSX composite index's 15-per-cent rise.

"CN's [freight] volume growth again surprised to the upside and outperformed the [other North American railways] by a very wide margin," Walter Spracklin, a Royal Bank of Canada analyst, said in a research note.

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In the name of efficiency, Canada's two major railways have geographically split the business of moving freight cars in and out of Vancouver's port. CN served the grain elevators, coal terminals and other customers on the north shore of Burrard Inlet and Vancouver Harbour while CP worked the south shore, assembling or switching trains for handover away from the port. The so-called co-production agreement means the railways served each other's customers.

But poor winter weather, unreliable train schedules, and a spike in freight related to a late grain harvest and construction at a nearby terminal led to congestion and complaints about poor service on the south shore that left ships waiting.

As of Jan. 1, CN replaced CP and began serving its own customers at the two major container terminals on the south shore, Global Container Terminals Inc. and DP World.

"CN then said to hell with it, we're going to perform all of our work at the south shore, and we're still going to do [CP's] work at the north shore, because CP doesn't have access there," said one rail industry source who The Globe is not identifying to protect them from retribution.

"There were a number of factors that just accumulated and resulted in a great dependency on switches and the fluidity of the gateway. So that's why … CN had to step in and start managing switching for their own trains," said Bonnie Gee, vice-president of the Chamber of Shipping of British Columbia, which represents about 16 container shipping companies.

"Ships were delayed because they couldn't get into the berth because the berth was congested and so it just was not a very good situation. The container lines run on a very tight schedule and strict berth windows, as well. Once they miss a berth window, there's a delay subsequently at other ports of call," Ms. Gee said in an interview.

"I think [CP] didn't have enough resources to apply to the switch," Ms. Gee said. "There were some changes in [CP] management and that caused some issues as well. There would be a commitment one day and the next day someone else would be in charge. There was just a lack of continuity in terms of what was being committed and what was being delivered."

Five sources in Vancouver's rail, marine and container industry confirmed Ms. Gee's account.

"In short, customers were not getting timely service and commuters were arriving at their destinations late," said Martin Cej, a CP spokesman. "By amending the co-production agreement to no longer provide switching services for CN, CP was able to decrease the overall volume of traffic on its line to the south shore of Vancouver and increase capacity for its own customers."

Mr. Creel said he spent "quite a bit of time" in Vancouver over the winter to find solutions to the congestion. "I am happy to say I was out there again last week and things have dramatically improved,"he said in January.

"Since January, it's gotten a lot better," said Rob Jones, sales director at West Coast Reduction Ltd., a CP customer that ships animal and vegetable oil through the south shore of the port.

CP did not respond to a question about train scheduling. The Port of Vancouver declined interview requests. A CN spokesman declined to comment, and pointed to a recent conference call on which marketing chief JJ Ruest said CN is, "putting new service in place for the container business offloaded at [Vancouver's south shore] solving the congestion issues."

"All of our major contracts are renewed," Mr. Ruest said.

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