10-QPeriod: Q2 FY2023

CANADIAN PACIFIC KANSAS CITY LTD/CN Quarterly Report for Q2 Ended Jun 30, 2023

Filed July 28, 2023For Securities:CP

Summary

Canadian Pacific Kansas City Ltd. (CPKC) reported a significant increase in revenues for the second quarter and first six months of 2023, primarily driven by the consolidation of Kansas City Southern (KCS) beginning April 14, 2023. Total revenues rose 44% year-over-year in Q2 to $3.17 billion and 35% for the six-month period to $5.44 billion. While reported net income attributable to controlling shareholders increased substantially to $1.32 billion in Q2 and $2.12 billion year-to-date, this was largely impacted by a substantial remeasurement loss of $7.175 billion related to the KCS acquisition. Excluding this and other significant items, the 'Core adjusted combined diluted EPS' was $0.83 for Q2, a decrease of 13% compared to the prior year, indicating operational challenges and integration costs impacting profitability on an adjusted basis. Operating expenses also saw a significant increase, up 67% in Q2 and 39% year-to-date, largely due to the KCS integration, increased compensation and benefits, fuel costs, and depreciation. This led to a higher operating ratio of 70.3% for Q2, a substantial increase from 60.6% in the prior year, with the 'Core adjusted combined operating ratio' also rising to 64.6% from 60.3%. Investors should note the substantial impact of the KCS acquisition on reported figures, with adjusted metrics providing a clearer view of underlying operational performance. The company is managing its debt and liquidity effectively, with an increased revolving credit facility and an undrawn balance as of June 30, 2023.

Key Highlights

  • 1Total revenues increased significantly in Q2 2023 to $3.17 billion (+44% YoY) and for the six-month period to $5.44 billion (+35% YoY), largely due to the full consolidation of Kansas City Southern (KCS).
  • 2Reported net income attributable to controlling shareholders rose to $1.32 billion in Q2 and $2.12 billion year-to-date, heavily influenced by a $7.175 billion remeasurement loss on the KCS investment.
  • 3Adjusted profitability, as measured by 'Core adjusted combined diluted EPS', decreased by 13% to $0.83 in Q2 2023 compared to the prior year, reflecting integration costs and operational impacts.
  • 4The operating ratio deteriorated to 70.3% in Q2 2023 (+970 bps YoY), with the 'Core adjusted combined operating ratio' also increasing to 64.6%, indicating higher operational expenses relative to revenue.
  • 5Operating expenses increased substantially, up 67% in Q2 and 39% year-to-date, driven by KCS integration costs, compensation, fuel, and depreciation.
  • 6CPKC expanded its credit facility to $2.2 billion and maintained an undrawn balance as of June 30, 2023, demonstrating strong liquidity management.
  • 7Freight revenue per revenue ton-mile (RTM) increased by 16% in Q2 and 14% year-to-date, driven by higher freight rates and favorable foreign exchange impacts, partially offset by fuel surcharge dynamics.

Frequently Asked Questions

The primary driver behind the substantial increase in reported revenues for Q2 and the first six months of 2023 is the full consolidation of Kansas City Southern (KCS) into CPKC's financial statements, which began on April 14, 2023. This integration significantly expanded the company's operational network and generated higher overall revenue.

Reported net income attributable to controlling shareholders saw a significant increase due to accounting for the Kansas City Southern (KCS) acquisition. However, this figure was heavily impacted by a large non-cash remeasurement loss of $7.175 billion on the previously held equity investment in KCS when control was assumed. While beneficial for the consolidated net income number on paper, this large loss and other acquisition-related adjustments mean that 'Core adjusted combined diluted EPS' and 'Core adjusted combined operating ratio' provide a more realistic view of the operational performance.

'Core adjusted combined' metrics, such as diluted EPS and operating ratio, are Non-GAAP measures that CPKC uses to present a view of its financial performance that excludes significant items related to the KCS acquisition and other unusual items. These metrics are important for investors because they aim to provide a more comparable basis for evaluating underlying operational performance and trends, stripping out the effects of purchase accounting adjustments, acquisition-related costs, and other one-time or exceptional items that can distort reported GAAP figures.

CPKC has proactively managed its liquidity and debt. The company amended and restated its credit agreement, increasing its revolving credit facility to $2.2 billion, and as of June 30, 2023, this facility was undrawn. Additionally, CPKC has an active commercial paper program and has been managing its debt obligations, including the exchange of KCS notes and the repayment of maturing debt, demonstrating a focus on maintaining financial flexibility.