INDEX TO MANAGEMENT'S DISCUSSION AND ANALYSIS
Page Executive Summary 33 2020 Outlook 33 Performance Indicators 34 Results of Operations 36 Impact of Foreign Exchange on Earnings 39 Impact of Fuel Price on Earnings 40 Impact of Share Price on Earnings 41 Operating Revenues 41 Operating Expenses 47 Other Income Statement Items 50 Liquidity and Capital Resources 50 Non-GAAP Measures 54 Off-Balance Sheet Arrangements 62 Critical Accounting Estimates 63 Forward-Looking Statements 67
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33 / SERVICE EXCELLENCE
The following discussion and analysis should be read in conjunction with the Company's Consolidated Financial Statements and the related notes in Item 8. Financial Statements and Supplementary Data, and other information in this annual report. Except where otherwise indicated, all financial information reflected herein is expressed in Canadian dollars. Executive Summary 2019 Results • Financial performance - In 2019, CP reported Diluted earnings per share ("EPS")
of
to
service and operational efficiency produced an Operating ratio of 59.9%. Adjusted diluted EPS is defined and reconciled in Non-GAAP Measures and discussed further in Results of Operations of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.
• Total revenues - CP's Total revenues increased by 7% to
from
• Operating performance - CP's average train speed increased by 3% to 22.2 miles
per hour and average dwell time decreased by 6% to 6.4 hours in 2019 primarily
due to the completion of network infrastructure projects which improved network
fluidity. Average train weight remained relatively unchanged at 9,129 tons and
average train length increased by 1% to 7,388 feet due to improvements in
operating plan efficiency, in each case compared to 2018. These metrics are
discussed further in Performance Indicators of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.
The following table compares 2019 outlook to actual results:
Capital RTM growth Adjusted diluted EPS(1)
expenditures
Outlook Mid-single digits Double-digit Adjusted Approximately
diluted EPS growth from billion Revised at the end of full-year 2018 Adjusted the third quarter to diluted EPS of$14.51 low-single digits Actual outcomes Revenue ton-miles Adjusted diluted EPS$1.65 billion ("RTMs") increased by growth of 13% to$16.44 171 million, or 0.1% (1) Adjusted diluted EPS is defined and reconciled in Non-GAAP Measures of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. As described in the 2020 Outlook section below, CP had not calculated an outlook for Diluted EPS in 2019. The update in RTM volume expectations was due to delays in the Canadian grain harvest and export potash volumes, as well as general macroeconomic softness. During the fourth quarter of 2019, CP's volumes were lower primarily due to decreased shipments of export potash, Coal and Metals, minerals and consumer products. This decrease was partially offset by increased volumes of crude, and Intermodal. 2020 Outlook With a 2020 plan that encompasses profitable sustainable growth, CP expects RTM growth to be in the mid-single digit and Adjusted diluted EPS growth to be in the high single-digit to low double-digits. CP's expectations for Adjusted diluted EPS growth in 2020 are based on Adjusted diluted EPS of$16.44 in 2019. For the purposes of this outlook, CP assumes an effective tax rate of 25 percent. CP estimates other components of net periodic benefit recovery to decrease by approximately$40 million versus 2019. As CP continues to invest in service, productivity and safety, the Company plans to invest approximately$1.6 billion in capital programs in 2020. Capital programs are defined and discussed further in Liquidity and Capital Resources of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. Adjusted diluted EPS is defined and discussed further in Non-GAAP Measures and in Forward-Looking Statements of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. Although CP has provided a forward-looking Non-GAAP measure (Adjusted diluted EPS), management is unable to reconcile, without unreasonable efforts, the forward-looking Adjusted diluted EPS to the most comparable GAAP measure, due to unknown variables and uncertainty related to future results. These unknown variables may include unpredictable transactions of significant value. In past years, CP has recognized significant asset impairment charges, management transition costs related to senior executives and discrete tax items. These or other similar, large unforeseen transactions affect diluted EPS but may be excluded from CP's Adjusted diluted EPS. Additionally, theU.S. -to-Canadian dollar exchange rate is unpredictable and can have a significant impact on CP's reported results but may be excluded from CP's Adjusted diluted EPS. In particular, CP excludes the foreign exchange ("FX") impact of translating the Company's debt and lease liabilities, the impact from changes in income tax rates and a provision for uncertain tax item from Adjusted diluted EPS. Please see Forward-Looking Statements of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations for further discussion. -------------------------------------------------------------------------------- CP 2019 ANNUAL REPORT
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Performance Indicators The following table lists the key measures of the Company's operating performance:
% Change For the year ended December 31 2019 2018(1) 2017(1) 2019 vs. 2018 2018 vs. 2017 Operations Performance Gross ton-miles ("GTMs") (millions) 280,724 275,362 252,195 2 9 Train miles (thousands) 32,924 32,312 30,632 2 5
Average train weight - excluding local 9,129 9,100 8,806
- 3 traffic (tons) Average train length - excluding local 7,388 7,313 7,214 1 1 traffic (feet) Average terminal dwell (hours) 6.4 6.8 6.6 (6 ) 3
Average train speed (miles per hour, or 22.2 21.5 22.6
3 (5 )
"mph")
Fuel efficiency (
- (3 ) fuel consumed /1,000 GTMs) Total employees (average) 13,103 12,756 12,083 3 6 Total employees (end of period) 12,694 12,840 12,215 (1 ) 5 Workforce (end of period) 12,732 12,866 12,294 (1 ) 5 Safety Indicators FRA personal injuries per 200,000 1.42 1.48 1.65 (4 ) (10 )
employee-hours
FRA train accidents per million train-miles 1.06 1.10 0.99
(4 ) 11
(1) Certain figures have been updated to reflect new information or have been revised to conform with current presentation.
Operations Performance These key measures of operating performance reflect how effective CP's management is at controlling costs and executing the Company's operating plan and strategy. CP continues to drive further productivity improvements in its operations, allowing the Company to deliver superior service and grow its business at low incremental cost. A GTM is defined as the movement of one ton of train weight over one mile. GTMs are calculated by multiplying total train weight by the distance the train moved. Total train weight comprises the weight of the freight cars, their contents, and any inactive locomotives. An increase in GTMs indicates additional workload. GTMs for 2019 were 280,724 million, a 2% increase compared with 275,362 million in 2018. This increase was primarily driven by increased volumes of Energy, chemicals and plastics and Intermodal. This increase was partially offset by decreased volumes of Potash, frac sand and Coal. GTMs in 2018 were 275,362 million, a 9% increase compared with 252,195 million in 2017. This increase was primarily driven by increased volumes of Energy, chemicals and plastics, Potash, and Intermodal, partially offset by decreased shipments ofU.S. grain. Train miles are defined as the sum of the distance moved by all trains operated on the network. Train miles for 2019 were 32,924 thousands, an increase of 2% compared with 32,312 thousands in 2018. This reflects the impact of higher GTMs in 2019.
Train miles in 2018 were 32,312, an increase of 5% compared with 30,632 thousands in 2017. This reflects the impact of higher volumes partially offset by continuous improvements in train weights as evident in the relative comparison to GTMs, which grew by 9% in 2018.
Average train weight is defined as the average gross weight of CP trains, both loaded and empty. This excludes trains in short-haul service, work trains used to move CP's track equipment and materials, and the haulage of other railways' trains on CP's network. Average train weight of 9,129 tons in 2019 increased by 29 tons compared with 9,100 tons in 2018. This slight increase was a result of improvements in operating plan efficiency. This increase was partially offset by the implementation of CP's winter contingency plan in the first quarter of 2019 resulting in shorter and lighter trains within the operating plan. Average train weight of 9,100 tons in 2018 increased by 294 tons, or 3%, from 8,806 tons in 2017. This increase was due to continuous improvements in operating plan efficiency, as well as higher volumes of heavier commodities, such as crude and Potash, compared to the same period in 2017. Average train length is defined as the average total length of CP trains, both loaded and empty. This includes all cars and locomotives on the train and is calculated as the sum of each car or locomotive's length multiplied by the distance travelled, divided by train miles. Local trains are excluded from this measure. --------------------------------------------------------------------------------
35 / SERVICE EXCELLENCE
Average train length of 7,388 feet in 2019 increased by 75 feet, or 1%, compared with 7,313 feet in 2018. This was a result of improvements in operating plan efficiency and increased Intermodal volumes which move on longer trains. This increase was partially offset by the implementation of CP's winter contingency plan in the first quarter of 2019 resulting in shorter and lighter trains within the operating plan. Average train length of 7,313 feet in 2018 increased by 99 feet, or 1%, from 7,214 feet in 2017. This was a result of improvements in operating plan efficiency and increased Intermodal and Potash volumes, which move in longer trains. Average terminal dwell is defined as the average time a freight car resides within terminal boundaries expressed in hours. The timing starts with a train arriving at the terminal, a customer releasing the car to the Company, or a car arriving at interchange from another railway. The timing ends when the train leaves, a customer receives the car from CP, or the freight car is transferred to another railway. Freight cars are excluded if they are being stored at the terminal or used in track repairs. Average terminal dwell of 6.4 hours in 2019 decreased by 6% from 6.8 hours in 2018. This favourable decrease was due to improved network fluidity.
Average terminal dwell of 6.8 hours in 2018 increased by 3% from 6.6 hours in 2017. This unfavourable increase was primarily due to: • network disruptions from labour negotiations in the second quarter of 2018;
• harsher weather conditions and increased network disruptions in the first
quarter of 2018; and
• higher volumes in the second half of the year and increased delays from
accelerated track and roadway capital programs in the third quarter of 2018.
Average train speed is defined as a measure of the line-haul movement from origin to destination including terminal dwell hours. It is calculated by dividing the total train miles travelled by the total train hours operated. This calculation does not include delay time related to customers or foreign railways and excludes the time and distance travelled by: i) trains used in or around CP's yards; ii) passenger trains; and iii) trains used for repairing track. Average train speed was 22.2 mph in 2019, an increase of 3%, from 21.5 mph in 2018. This increase in speed was due to the completion of network infrastructure projects, partially offset by the impact of harsh winter operating conditions and network disruptions in the first quarter of 2019. Average train speed in 2018 was 21.5 mph, a decrease of 5%, from 22.6 mph in 2017. This decrease was primarily due to: • network disruptions from labour negotiations in the second quarter of 2018;
• harsher weather conditions and increased network disruptions in the first
quarter of 2018; and
• higher volumes and increased delays from accelerated track and roadway
capital programs in the third quarter of 2018.
This decrease was partially offset by the completion of roadway capital programs, resulting in improved network fluidity in the fourth quarter of 2018.
Fuel efficiency is defined asU.S. gallons of locomotive fuel consumed per 1,000 GTMs. Fuel consumed includes gallons used in freight, yard and commuter service but excludes fuel used in capital projects and other non-freight activities. Fuel efficiency for 2019 of 0.955U.S. gallons/1,000 GTMs was flat compared to 2018, and improved by 3% in 2018 compared to 2017. The improvement in fuel efficiency in 2018 compared to 2017 was primarily due to improved productivity from running longer trains. Total Employees and Workforce An employee is defined by the Company as an individual currently engaged in full-time, part-time or seasonal employment with CP. The average number of total employees for 2019 increased by 347 compared with 2018. This increase was primarily due to growth in workload as measured in GTMs. The total number of employees as atDecember 31, 2019 was 12,694, a decrease of 146, or 1%, compared to 12,840 as atDecember 31, 2018 , due to more efficient resource planning and reduced workload in the fourth quarter, partially offset by the addition of CMQCanada employees. The average number of total employees for 2018 increased by 673, compared to 2017. This increase was primarily due to growth in volumes. The total number of employees as atDecember 31, 2018 was 12,840, an increase of 625, or 5%, compared to 12,215 as atDecember 31, 2017 , which was in line with volume growth and volume growth expectations. Workforce is defined as total employees plus contractors and consultants. The total workforce as atDecember 31, 2019 was 12,732, a decrease of 134, or 1%, compared to 12,866 as atDecember 31, 2018 , due to more efficient resource planning. The workforce as atDecember 31, 2018 was 12,866, an increase of 572, or 5%, compared to 12,294 as atDecember 31, 2017 , which was in line with volume growth and volume growth expectations. Safety Indicators Safety is a key priority and core strategy for CP's management, employees and Board of Directors. The Company's two main safety indicators - personal injuries and train accidents - follow strictU.S. Federal Railroad Administration ("FRA") reporting guidelines. The FRA personal injuries per 200,000 employee-hours frequency is the number of personal injuries, multiplied by 200,000 and divided by total employee hours. Personal injuries are defined as injuries that require employees to lose time away from work, modify their normal duties or obtain medical treatment -------------------------------------------------------------------------------- CP 2019 ANNUAL REPORT
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beyond minor first aid. FRA employee-hours are the total hours worked, excluding vacation and sick time, by all employees, excluding contractors. The FRA personal injuries per 200,000 employee-hours frequency for CP was 1.42 in 2019, compared with 1.48 in 2018 and 1.65 in 2017. The FRA train accidents per million train-miles frequency is the number of train accidents, multiplied by 1,000,000 and divided by total train miles. Train accidents included in this metric meet or exceed the FRA reporting threshold ofU.S. $10,700 in damage. The FRA train accidents per million train-miles frequency for CP was 1.06 in 2019 , compared with 1.10 in 2018 and 0.99 in 2017. Results of Operations Income [[Image Removed: chart-22fe300702c751b18cea01.jpg]][[Image Removed: chart-53a39c415a4653af91ba01.jpg]] * Adjusted operating income is defined and reconciled in Non-GAAP Measures of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
Operating income was
• the efficiencies generated from improved operating performance and asset
utilization;
• the favourable impact of change in FX of
• the favourable impact from changes in fuel prices of
This increase was partially offset by: • increased operating expense associated with higher casualty costs in 2019 of
• higher stock-based compensation of
• cost inflation; and
• increased weather related costs as a result of harsh winter operating
conditions in the first quarter of 2019.
There were no adjustments to operating income in 2019 and 2018.
Operating income was$2,831 million in 2018, an increase of$312 million , or 12%, from$2,519 million in 2017. This increase was primarily due to higher volumes and the efficiencies generated from improved operating performance and asset utilization. This increase was partially offset by: • cost inflation;
• management transition recoveries of
Harrison's retirement as CEO of CP in 2017; and
• higher depreciation and amortization driven primarily from a higher asset
base as a result of capital program spending in 2018.
Adjusted operating income, defined and reconciled in Non-GAAP Measures of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations, was$2,831 million in 2018, an increase of$363 million , or 15%, from$2,468 million in 2017. This increase was primarily due to the same factors discussed above for the increase in Operating income, except that Adjusted operating income in 2017 excludes the management transition recovery of$51 million . --------------------------------------------------------------------------------
37 / SERVICE EXCELLENCE
[[Image Removed: chart-115d238f0169533a931a01.jpg]][[Image Removed: chart-a034985e1f685a3b8dfa01.jpg]] *Adjusted income is defined and reconciled in Non-GAAP Measures of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.
Net income was
• FX translation gains on debt and lease liabilities in 2019 compared to FX
translation losses on debt in 2018; and
• a higher income tax recovery associated with changes in tax rates.
This increase was partially offset by higher income taxes due to higher taxable income and a provision for an uncertain tax item of a prior period.
Net income was$1,951 million in 2018, a decrease of$454 million , or 19%, from$2,405 million in 2017. This decrease was primarily due to a lower income tax recovery associated with changes in tax rates and FX translation losses on debt in 2018 compared to gains in 2017. This decrease was partially offset by higher Operating income and higher Other components of net periodic benefit recovery. Adjusted income, defined and reconciled in Non-GAAP Measures of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations, was$2,290 million in 2019, an increase of$210 million , or 10%, from$2,080 million in 2018. This increase was due to the same factors discussed above for the increase in Net income, except that Adjusted income excludes FX translation gains and losses on debt and lease liabilities, income tax recoveries associated with changes in tax rates, and a provision for an uncertain tax item of a prior period. Adjusted income was$2,080 million in 2018, an increase of$414 million , or 25%, from$1,666 million in 2017. This increase was primarily due to higher Adjusted operating income and higher Other components of net periodic benefit recovery. This increase was partially offset by higher income taxes due to higher taxable income. -------------------------------------------------------------------------------- CP 2019 ANNUAL REPORT
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Diluted Earnings per Share [[Image Removed: chart-50782fcefbef5c798d0a01.jpg]][[Image Removed: chart-f4ec6144bad45821b32.jpg]] *Adjusted diluted EPS is defined and reconciled in Non-GAAP Measures of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. Diluted EPS was$17.52 in 2019, an increase of$3.91 , or 29%, from$13.61 in 2018. This increase was due to higher Net income and lower average number of outstanding Common Shares due to the Company's share repurchase program.
Diluted EPS was
Adjusted diluted EPS, defined and reconciled in Non-GAAP Measures of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations, was$16.44 in 2019, an increase of$1.93 , or 13%, from$14.51 in 2018. Adjusted diluted EPS was$14.51 in 2018, an increase of$3.12 , or 27%, from$11.39 in 2017. These increases were due to higher Adjusted income and lower average number of outstanding Common Shares due to the Company's share repurchase program. Operating Ratio [[Image Removed: chart-837e081739825fab988a01.jpg]][[Image Removed: chart-efea72b76285568d85aa01.jpg]] * Adjusted operating ratio is defined and reconciled in Non-GAAP Measures of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. --------------------------------------------------------------------------------
39 / SERVICE EXCELLENCE
The Operating ratio provides the percentage of revenues used to operate the railway. A lower percentage normally indicates higher efficiency in the operation of the railway. The Company's Operating ratio was 59.9% in 2019, a 140 basis point improvement from 61.3% in 2018. This improvement was primarily due to: • higher freight rates;
• the favourable impact of changes in fuel prices; and
• the efficiencies generated from improved operating performance and asset
utilization.
This improvement was partially offset by: • increased operating expense associated with higher casualty costs in 2019;
• higher stock-based compensation; and
• cost inflation.
There were no adjustments to the operating ratio in 2019 and 2018.
The Company's Operating ratio was 61.3% in 2018, a 30 basis point improvement from 61.6% in 2017. This improvement was primarily due to higher volumes and the efficiencies generated from improved operating performance and asset utilization. This improvement was partially offset by: • the unfavourable impact of changes in fuel prices;
• cost inflation; and
• management transition recoveries of
Harrison's retirement as CEO of CP in 2017.
Adjusted operating ratio was 61.3% in 2018, a 110 basis point improvement from 62.4% in 2017. This improvement reflects the same factors discussed above for the improvement in Operating ratio, except that Adjusted operating ratio in 2017 excludes the$51 million management transition recovery. Return onInvested Capital Return on invested capital ("ROIC") is a measure of how productively the Company uses its long-term capital investments, representing critical indicators of good operating and investment decisions made by management, and is an important performance criteria in determining certain elements of the Company's long-term incentive plan. ROIC was 17.9% in 2019, a 260 basis point increase compared to 15.3% in 2018, primarily due to higher Operating income and FX translation gains on debt and lease liabilities in 2019 compared to FX translation losses on debt in 2018. This increase was partially offset by a higher average invested capital base due to higher Retained earnings from Net income, partially offset by lower Common Shares due to the Company's share repurchase program. ROIC was 15.3% in 2018, a 520 basis point decrease compared to 20.5% in 2017 primarily due to: • a higher average invested capital base due to higher Retained earnings from
Net income;
• higher Income tax expense due to a lower income tax recovery associated with
changes in tax rates; and
• the unfavourable impact of FX translation losses on debt in 2018 compared to
FX translation gains in 2017.
This decrease was partially offset by higher Operating income and higher Other components of net periodic benefit recoveries.
Adjusted ROIC was 16.9% in 2019, a 70 basis point increase compared to 16.2% in 2018, primarily due to higher Operating income. This increase was partially offset by the increase in adjusted average invested capital primarily due to higher Adjusted income, partially offset by by lower Common Shares due to the Company's share repurchase program. Adjusted ROIC was 16.2% in 2018, a 150 basis point increase compared to 14.7% in 2017 due to higher Adjusted operating income and higher Other components of net periodic benefit recoveries. This increase was partially offset by the increase in adjusted average invested capital primarily due to higher Adjusted income, partially offset by by lower Common Shares due to the Company's share repurchase program. ROIC and Adjusted ROIC are defined and reconciled in Non-GAAP Measures of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. Impact of Foreign Exchange on Earnings Fluctuations in FX affect the Company's results becauseU.S. dollar-denominated revenues and expenses are translated into Canadian dollars.U.S. dollar-denominated revenues and expenses increase (decrease) when the Canadian dollar weakens (strengthens) in relation to theU.S. dollar. In 2019, the impact of a strongerU.S. dollar resulted in an increase in total revenues of$87 million , an increase in total operating expenses of$48 million and an increase in interest -------------------------------------------------------------------------------- CP 2019 ANNUAL REPORT
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expense of
On
The following tables set forth, for the periods indicated, the average exchange rate between the Canadian dollar and theU.S. dollar expressed in the Canadian dollar equivalent ofone U.S. dollar , the high and low exchange rates and period end exchange rates for the periods indicated. Averages for year-end periods are calculated by using the exchange rates on the last day of each full month during the relevant period. These rates are based on the noon buying rate certified for customs purposes by theU.S. Federal Reserve Bank of New York set forth in the H.10 statistical release of theFederal Reserve Board . Average exchange rates (Canadian/U.S. dollar) 2019 2018 2017 2016 2015 For the year ended - December 31$ 1.33 $ 1.30 $ 1.30 $
1.33
Exchange rates (Canadian/U.S. dollar) 2019 2018 2017 2016 2015 Beginning of year - January 1$ 1.36 $ 1.25 $ 1.34 $ 1.38 $ 1.16 Beginning of quarter - April 1$ 1.33 $ 1.29 $ 1.33 $ 1.30 $ 1.27 Beginning of quarter - July 1$ 1.31 $ 1.32 $ 1.30 $ 1.29 $ 1.25 Beginning of quarter - October 1$ 1.32 $ 1.29 $ 1.25 $ 1.31 $ 1.33 End of year - December 31$ 1.30 $ 1.36 $ 1.25 $ 1.34 $ 1.38 High/Low exchange rates (Canadian/U.S. dollar) 2019 2018 2017 2016 2015 High$ 1.36 $ 1.37 $ 1.37 $ 1.46 $ 1.40 Low$ 1.30 $ 1.23 $ 1.21 $ 1.25 $ 1.17
In 2020, CP expects that for every
Impact of Fuel Price on Earnings Fluctuations in fuel prices affect the Company's results because fuel expense constitutes a significant portion of CP's operating costs. As fuel prices fluctuate, there will be a timing impact on earnings, as discussed further in Item 1. Business, Operations, Fuel Cost Adjustment Program and Item 1A. Risk Factors, Fuel Cost Volatility. Average Fuel Price (U.S. dollars per U.S. gallon) 2019 2018 2017(1) For the year ended - December 31$ 2.49 $ 2.72 $ 2.16
For the three months ended -
(1) Average fuel prices for 2017 exclude the effects of an
The impact of fuel price on earnings includes the impacts of provincial and federal carbon taxes and levies recovered and paid, on revenues and expenses, respectively.
In 2019, the favourable impact of fuel prices on Operating income was$38 million . Lower fuel prices resulted in a decrease in total operating expenses of$77 million . Lower fuel prices, partially offset by the timing of recoveries from CP's fuel cost adjustment program and increased carbon tax recoveries, resulted in a decrease in total revenues of$39 million from 2018. In 2018, the impact of higher fuel prices resulted in an increase in total revenues of$212 million and an increase in total operating expenses of$197 million . --------------------------------------------------------------------------------
41 / SERVICE EXCELLENCE
Impact of Share Price on Earnings Fluctuations in the Common Share price affect the Company's operating expenses because share-based liabilities are measured at fair value. The following tables indicate the opening and closing Common Share price on the TSX and the NYSE for each quarter and the change in the price of the Common Shares on the TSX and the NYSE for the years endedDecember 31, 2019 , 2018 and 2017: Toronto Stock Exchange (in Canadian dollars) 2019 2018
2017
Opening Common Share price, as at January 1$ 242.24 $ 229.66 $ 191.56 Ending Common Share price, as at March 31$ 275.34 $ 227.20 $ 195.35 Ending Common Share price, as at June 30$ 308.43 $ 240.92 $ 208.65 Ending Common Share price, as at September 30$ 294.42 $ 273.23 $ 209.58 Ending Common Share price, as at December 31$ 331.03 $ 242.24 $ 229.66 Change in Common Share price for the year$ 88.79 $ 12.58 $ 38.10 endedDecember 31 New York Stock Exchange (in U.S. dollars) 2019 2018
2017
Opening Common Share price, as at January 1$ 177.62 $ 182.76 $ 142.77 Ending Common Share price, as at March 31$ 206.03 $ 176.50 $ 146.92 Ending Common Share price, as at June 30$ 235.24 $ 183.02 $ 160.81 Ending Common Share price, as at September 30$ 222.46 $ 211.94 $ 168.03 Ending Common Share price, as at December 31$ 254.95 $ 177.62 $ 182.76 Change in Common Share price for the year$ 77.33 $ (5.14 ) $ 39.99 endedDecember 31 In 2019, the impact of the change in Common Share prices resulted in an increase in stock-based compensation expense of$42 million compared to$2 million in 2018, and$18 million in 2017. The impact of share price on stock-based compensation is discussed further in Item 7A. Quantitative and Qualitative Disclosures About Market Risk, Share Price Impact on Stock-Based Compensation. Operating Revenues 2019 vs. 2018 2018 vs. 2017 FX Adjusted For the year ended % FX Adjusted % December 31 2019 2018 2017 Total Change %
Change Change(2) Total Change % Change Change(2) Freight revenues (in millions)(1)
$ 7,613 $ 7,152 $ 6,375 $ 461 6 5$ 777 12 12 Non-freight revenues (in millions) 179 164 179 15 9 8 (15 ) (8 ) (8 ) Total revenues (in millions)$ 7,792 $ 7,316 $ 6,554 $ 476
7 5
26.6
1 N/A 105.6 4 N/A Revenue ton-miles (in millions)
154,378 154,207 142,540 171 - N/A 11,667 8 N/A Freight revenue per carload (in dollars)$ 2,752 $ 2,611 $ 2,420 $ 141 5 4$ 191 8 8 Freight revenue per revenue ton-mile (in cents) 4.93 4.64 4.47 0.29 6 5 0.17 4 4 (1) Freight revenues include fuel surcharge revenues of$464 million in 2019,$492 million in 2018 and$242 million in 2017. Fuel surcharge revenues include recoveries of carbon taxes, levies, and obligations under cap-and-trade programs. (2) FX adjusted % change does not have any standardized meaning prescribed by GAAP and, therefore, is unlikely to be comparable to similar measures presented by other companies. FX adjusted % change is defined and reconciled in Non-GAAP Measures of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. The Company's revenues are primarily derived from transporting freight. Changes in freight volumes generally contribute to corresponding changes in freight revenues and certain variable expenses, such as fuel, crew costs, and equipment rents. Non-freight revenue is generated from leasing of certain assets; other arrangements, including logistical services and contracts with passenger service operators; and switching fees. -------------------------------------------------------------------------------- CP 2019 ANNUAL REPORT
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Freight Revenues Freight revenues were$7,613 million in 2019, an increase of$461 million , or 6%, from$7,152 million in 2018. This increase was primarily due to higher freight revenue per revenue ton-mile and the favourable impact of the change in FX of$86 million . This increase was partially offset by the unfavourable impact of lower fuel surcharge revenue, as a result of lower fuel prices of$39 million . Freight revenues were$7,152 million in 2018, an increase of$777 million , or 12%, from$6,375 million in 2017. This increase was primarily due to higher volumes, as measured by RTMs, and the favourable impact of higher fuel surcharge revenue, as a result of higher fuel prices of$212 million . This increase was partially offset by lower volumes ofU.S. grain, and the unfavourable impact of the change in FX of$8 million .
RTMs
RTMs are defined as the movement of one revenue-producing ton of freight over a distance of one mile. RTMs measure the relative weight and distance of rail freight moved by the Company. RTMs for 2019 were 154,378 million, an increase of 171 million, compared with 154,207 million in 2018. This increase was mainly attributable to increased shipments of Energy, chemicals and plastics and Intermodal, partially offset by decreased shipments of Potash, frac sand and Coal.
RTMs for 2018 were 154,207 million, an increase of 8% compared with 142,540
million in 2017. This increase was mainly attributable to increased shipments of
Energy, chemicals and plastics, Potash, and Intermodal, partially offset by
decreased shipments of
Non-freight Revenues Non-freight revenues were$179 million in 2019, an increase of$15 million , or 9%, from$164 million in 2018. This increase was primarily due to higher switching fees and logistical services revenue. Non-freight revenues were$164 million in 2018, a decrease of$15 million , or 8%, from$179 million in 2017. This decrease was primarily due to the recovery of prior costs following the expiration of a passenger service contract in 2017 and lower passenger revenues in 2018. Lines of Business Grain 2019 vs. 2018 2018 vs. 2017 FX FX Adjusted Adjusted For the year ended % % December 31 2019 2018 2017 Total Change %
Change Change(1) Total Change % Change Change(1) Freight revenues (in millions)
$ 1,684 $ 1,566 $ 1,532 $ 118 8 6 $ 34 2 2 Carloads (in thousands) 431.4 429.4 440.7 2.0 - N/A (11.3 ) (3 ) N/A Revenue ton-miles (in millions) 36,941 36,856 37,377 85 - N/A (521 ) (1 ) N/A Freight revenue per carload (in dollars)$ 3,904 $ 3,645 $ 3,477 $ 259 7 6$ 168 5 5 Freight revenue per revenue ton-mile (in cents) 4.56 4.25 4.10 0.31 7 6 0.15 4 4 (1) FX adjusted % change does not have any standardized meaning prescribed by GAAP and, therefore, is unlikely to be comparable to similar measures presented by other companies. FX adjusted % change is defined and reconciled in Non-GAAP Measures of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. Grain revenue was$1,684 million in 2019, an increase of$118 million , or 8%, from$1,566 million in 2018. This increase was primarily due to increased freight revenue per revenue ton-mile, higher volumes of regulated Canadian grain, and the favourable impact of the change in FX. This increase was partially offset by lower volumes ofU.S. grain, primarily corn, to theU.S. Pacific Northwest . Freight revenue per revenue ton-mile increased due to higher freight rates, primarily for regulated Canadian grain. Grain revenue was$1,566 million in 2018, an increase of$34 million , or 2%, from$1,532 million in 2017. This increase was primarily due to higher freight revenue per revenue ton-mile, higher fuel surcharge as a result of higher fuel prices, and higher volumes of Canadian grain. This increase was partially offset by decreased volumes ofU.S. grain, primarily wheat, and soybeans to thePacific Northwest , and the unfavourable impact of the change in FX. Freight revenue per revenue ton-mile increased due to higher freight rates, primarily for regulated Canadian grain. RTMs decreased less than carloads due to moving proportionately more Canadian grain, which has a longer length of haul compared toU.S. grain. --------------------------------------------------------------------------------
43 / SERVICE EXCELLENCE Coal 2019 vs. 2018 2018 vs. 2017 FX FX Adjusted Adjusted For the year ended % % December 31 2019 2018 2017 Total Change %
Change Change(1) Total Change % Change Change(1) Freight revenues (in millions)
$ 682 $ 673 $ 631 $ 9 1 1 $ 42 7 7 Carloads (in thousands) 304.3 304.3 306.0 - - N/A (1.7 ) (1 ) N/A Revenue ton-miles (in millions) 21,820 22,443 22,660 (623 ) (3 ) N/A (217 ) (1 ) N/A Freight revenue per carload (in dollars)$ 2,241 $ 2,211 $ 2,061 $ 30 1 1$ 150 7 7 Freight revenue per revenue ton-mile (in cents) 3.13 3.00 2.78 0.13 4 4 0.22 8 8 (1) FX adjusted % change does not have any standardized meaning prescribed by GAAP and, therefore, is unlikely to be comparable to similar measures presented by other companies. FX adjusted % change is defined and reconciled in Non-GAAP Measures of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. Coal revenue was$682 million in 2019, an increase of$9 million , or 1%, from$673 million in 2018. This increase was primarily due to higher freight revenue per revenue ton-mile. This increase was partially offset by lower volumes of Canadian coal, driven by supply chain challenges at both the mines and the ports. Freight revenue per revenue ton-mile increased due to higher freight rates. RTMs decreased while carloads remained flat due to moving proportionately higher volumes of short haulU.S. coal. Coal revenue was$673 million in 2018, an increase of$42 million , or 7%, from$631 million in 2017. This increase was primarily due to higher fuel surcharge revenue as a result of higher fuel prices, and higher freight revenue per revenue ton-mile, partially offset by lower volumes of Canadian coal, and the unfavourable impact of the change in FX. Freight revenue per revenue ton-mile increased due to higher freight rates. Potash 2019 vs. 2018 2018 vs. 2017 FX Adjusted For the year ended FX Adjusted % % December 31 2019 2018 2017 Total Change % Change Change(1) Total Change % Change Change(1) Freight revenues (in millions)$ 462 $ 486 $ 411 $ (24 )
(5 ) (6 ) $ 75 18 19 Carloads (in thousands) 149.3 158.4 137.4 (9.1 ) (6 ) N/A
21.0 15 N/A Revenue ton-miles (in millions) 17,297 18,371 15,751 (1,074 ) (6 ) N/A 2,620 17 N/A
Freight revenue per
carload (in dollars)
- $ 83 3 3 Freight revenue per revenue ton-mile (in cents) 2.67 2.65 2.61 0.02 1 - 0.04 2 2 (1) FX adjusted % change does not have any standardized meaning prescribed by GAAP and, therefore, is unlikely to be comparable to similar measures presented by other companies. FX adjusted % change is defined and reconciled in Non-GAAP Measures of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. Potash revenue was$462 million in 2019, a decrease of$24 million , or 5%, from$486 million in 2018. This decrease was primarily due to lower volumes of domestic potash driven by poor weather affecting the application seasons, and lower volumes of export potash driven by unresolved international contract negotiations. This decrease was partially offset by the favourable impact of the change in FX. Potash revenue was$486 million in 2018, an increase of$75 million , or 18%, from$411 million in 2017. This increase was primarily due to higher volumes of export potash, as well as higher fuel surcharge revenue as a result of higher fuel prices, partially offset by the unfavourable impact of the change in FX. RTMs increased more than carloads due to moving proportionately more export potash toVancouver , which has a longer length of haul. --------------------------------------------------------------------------------
CP 2019 ANNUAL REPORT / 44 Fertilizers and Sulphur 2019 vs. 2018 2018 vs. 2017 FX Adjusted For the year ended % FX Adjusted % December 31 2019 2018 2017 Total Change %
Change Change(1) Total Change % Change Change(1) Freight revenues (in millions)
$ 250 $ 243 $ 241 $ 7 3 1$ 2 1 1 Carloads (in thousands) 57.0 58.1 57.7 (1.1 ) (2 ) N/A 0.4 1 N/A Revenue ton-miles (in millions) 3,846 4,051 3,849 (205 ) (5 ) N/A 202 5 N/A Freight revenue per carload (in dollars)$ 4,386 $ 4,186 $ 4,178 $ 200 5 3$ 8 - 1 Freight revenue per revenue ton-mile (in cents) 6.50 6.00 6.27 0.50 8 7 (0.27 ) (4 ) (4 ) (1) FX adjusted % change does not have any standardized meaning prescribed by GAAP and, therefore, is unlikely to be comparable to similar measures presented by other companies. FX adjusted % change is defined and reconciled in Non-GAAP Measures of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. Fertilizers and sulphur revenue was$250 million in 2019, an increase of$7 million , or 3%, from$243 million in 2018. This increase was primarily due to higher freight revenue per revenue ton-mile, the favourable impact of the change in FX, and higher volumes of wet fertilizer. This increase was partially offset by lower volumes of sulphur and dry fertilizer. Freight revenue per revenue ton-mile increased due to higher freight rates. RTMs decreased more than carloads due to moving proportionately less wet fertilizer to theU.S. Midwest, which has a longer length of haul. Fertilizers and sulphur revenue was$243 million in 2018, an increase of$2 million , or 1%, from$241 million in 2017. This increase was primarily due to increased volumes of dry fertilizer and sulphur, and higher fuel surcharge revenue as a result of higher fuel prices, partially offset by lower freight revenue per revenue ton-mile, and the unfavourable impact of the change in FX. Freight revenue per revenue ton-mile decreased due to moving proportionately less wet fertilizer, which has higher freight rates, and increased volumes of longer haul sulphur fromCanada to theU.S. Forest Products 2019 vs. 2018 2018 vs. 2017 FX FX Adjusted Adjusted For the year ended % % December 31 2019 2018 2017 Total Change %
Change Change(1) Total Change % Change Change(1) Freight revenues (in millions)
$ 304 $ 284 $ 265 $ 20 7 5 $ 19 7 8 Carloads (in thousands) 71.5 68.6 65.8 2.9 4 N/A 2.8 4 N/A Revenue ton-miles (in millions) 4,974 4,763 4,484 211 4 N/A 279 6 N/A Freight revenue per carload (in dollars)$ 4,252 $ 4,139 $ 4,036 $ 113 3 1 $ 103 3 3 Freight revenue per revenue ton-mile (in cents) 6.11 5.96 5.92 0.15 3 1 0.04 1 1 (1) FX adjusted % change does not have any standardized meaning prescribed by GAAP and, therefore, is unlikely to be comparable to similar measures presented by other companies. FX adjusted % change is defined and reconciled in Non-GAAP Measures of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. Forest products revenue was$304 million in 2019, an increase of$20 million , or 7%, from$284 million in 2018. This increase was primarily due to higher volumes of wood pulp, newsprint, and lumber, increased freight revenue per revenue ton-mile, and the favourable impact of the change in FX. Freight revenue per revenue ton-mile increased due to higher freight rates. Forest products revenue was$284 million in 2018, an increase of$19 million , or 7%, from$265 million in 2017. This increase was primarily due to increased volumes of wood pulp and paper products, and higher fuel surcharge revenue as a result of higher fuel prices, partially offset by the unfavourable impact of the change in FX. RTMs increased more than carloads due to increased volumes of longer haul wood pulp from easternCanada to theU.S. --------------------------------------------------------------------------------
45 / SERVICE EXCELLENCE
Energy, Chemicals and Plastics
2019 vs. 2018 2018 vs. 2017 FX FX Adjusted Adjusted For the year ended % % December 31 2019 2018 2017 Total Change %
Change Change(1) Total Change % Change Change(1) Freight revenues (in millions)
$ 1,534 $ 1,243 $ 898 $ 291 23 22 $ 345 38 39 Carloads (in thousands) 358.1 334.6 269.5 23.5 7 N/A 65.1 24 N/A Revenue ton-miles (in millions) 29,356 27,830 21,327 1,526 5 N/A 6,503 30 N/A Freight revenue per carload (in dollars)$ 4,284 $ 3,715 $ 3,333 $ 569 15 14 $ 382 11 12 Freight revenue per revenue ton-mile (in cents) 5.23 4.47 4.21 0.76
17 15 0.26 6 6
(1) FX adjusted % change does not have any standardized meaning prescribed by GAAP and, therefore, is unlikely to be comparable to similar measures presented by other companies. FX adjusted % change is defined and reconciled in Non-GAAP Measures of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. Energy, chemicals and plastics revenue was$1,534 million in 2019, an increase of$291 million , or 23%, from$1,243 million in 2018. This increase was primarily due to increased freight revenue per revenue ton-mile, higher volumes of crude, liquefied petroleum gas ("LPG"), fuel oil, and other refined products, and the favourable impact of the change in FX. Freight revenue per revenue ton-mile increased primarily due to liquidated damages, including customer volume commitments, and higher freight rates. Carloads increased more than RTMs due to moving proportionately less long haul crude toKansas City, Missouri , and proportionately more short haul crude toChicago, Illinois andNoyes, Minnesota . Energy, chemicals and plastics revenue was$1,243 million in 2018, an increase of$345 million , or 38%, from$898 million in 2017. This increase was primarily due to increased volumes of crude and LPG, and higher fuel surcharge revenue as a result of higher fuel prices, partially offset by the unfavourable impact of the change in FX. RTMs increased more than carloads due to moving proportionately more crude, which has a longer length of haul.
Metals, Minerals and Consumer Products
2019 vs. 2018 2018 vs. 2017 FX Adjusted For the year ended FX Adjusted % % December 31 2019 2018 2017 Total Change %
Change Change(1) Total Change % Change Change(1) Freight revenues (in millions)
$ 752 $ 797 $ 739 $ (45 ) (6 ) (8 ) $ 58 8 8 Carloads (in thousands) 234.3 252.2 255.3 (17.9 ) (7 ) N/A (3.1 ) (1 ) N/A Revenue ton-miles (in millions) 10,684 11,858 11,468 (1,174 ) (10 ) N/A 390 3 N/A Freight revenue per carload (in dollars)$ 3,210 $ 3,161 $ 2,894 $ 49 2 -$ 267 9 9 Freight revenue per revenue ton-mile (in cents) 7.04 6.72 6.44 0.32 5 3 0.28 4 4 (1) FX adjusted % change does not have any standardized meaning prescribed by GAAP and, therefore, is unlikely to be comparable to similar measures presented by other companies. FX adjusted % change is defined and reconciled in Non-GAAP Measures of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. Metals, minerals and consumer products revenue was$752 million in 2019, a decrease of$45 million , or 6%, from$797 million in 2018. This decrease was primarily due to lower volumes of frac sand and steel. This decrease was partially offset by increased freight revenue per revenue ton-mile, and the favourable impact of the change in FX. Freight revenue per revenue ton-mile increased due to higher freight rates. Carloads decreased less than RTMs due to increased volumes of short haul metallic ore. Metals, minerals and consumer products revenue was$797 million in 2018, an increase of$58 million , or 8%, from$739 million in 2017. This increase was primarily due to higher freight revenue per revenue ton-mile, higher fuel surcharge revenue as a result of higher fuel prices, and increased volumes of steel and aggregate products. The increase was partially offset by the unfavourable impact of the change in FX. RTMs increased while carloads decreased due to a decrease in volumes of short haul metallic ore traffic. Freight revenue per revenue ton-mile increased due to higher freight rates. --------------------------------------------------------------------------------
CP 2019 ANNUAL REPORT / 46 Automotive 2019 vs. 2018 2018 vs. 2017 FX FX Adjusted Adjusted For the year ended % % December 31 2019 2018 2017 Total Change %
Change Change(1) Total Change % Change Change(1) Freight revenues (in millions)
$ 352 $ 322 $ 293 $ 30 9 7 $ 29 10 11 Carloads (in thousands) 114.4 108.3 105.1 6.1 6 N/A 3.2 3 N/A Revenue ton-miles (in millions) 1,427 1,347 1,321 80 6 N/A 26 2 N/A Freight revenue per carload (in dollars)$ 3,077 $ 2,975 $ 2,785 $ 102 3 1 $ 190 7 7 Freight revenue per revenue ton-mile (in cents) 24.67 23.92 22.15 0.75 3 1 1.77 8 8 (1) FX adjusted % change does not have any standardized meaning prescribed by GAAP and, therefore, is unlikely to be comparable to similar measures presented by other companies. FX adjusted % change is defined and reconciled in Non-GAAP Measures of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. Automotive revenue was$352 million in 2019, an increase of$30 million , or 9%, from$322 million in 2018. This increase was primarily due to higher volumes fromVancouver to easternCanada , higher volumes from theU.S. to CP's new Vancouver Automotive Compound, increased freight revenue per revenue ton-mile, and the favourable impact of the change in FX. Freight revenue per revenue ton-mile increased due to higher freight rates. Automotive revenue was$322 million in 2018, an increase of$29 million , or 10% from$293 million in 2017. This increase was primarily due to higher freight revenue per revenue ton-mile, higher fuel surcharge revenue as a result of higher fuel prices, and higher volumes of machinery. This increase was partially offset by the unfavourable change in FX. Freight revenue per revenue ton-mile increased due to higher freight rates. Intermodal 2019 vs. 2018 2018 vs. 2017 FX Adjusted For the year ended FX Adjusted % % December 31 2019 2018 2017 Total Change % Change Change(1) Total Change % Change Change(1) Freight revenues (in millions)$ 1,593 $ 1,538 $ 1,365 $ 55 4 3 $ 173 13 13
Carloads (in thousands) 1,046.1 1,025.9 996.7 20.2
2 N/A 29.2 3 N/A Revenue ton-miles (in millions) 28,033 26,688 24,303 1,345 5 N/A 2,385 10 N/A Freight revenue per carload (in dollars)$ 1,523 $ 1,499 $ 1,370 $ 24 2 1 $ 129 9 9 Freight revenue per revenue ton-mile (in cents) 5.68 5.76 5.62 (0.08 ) (1 ) (2 ) 0.14 2 2 (1) FX adjusted % change does not have any standardized meaning prescribed by GAAP and, therefore, is unlikely to be comparable to similar measures presented by other companies. FX adjusted % change is defined and reconciled in Non-GAAP Measures of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. Intermodal revenue was$1,593 million in 2019, an increase of$55 million , or 4%, from$1,538 million in 2018. This increase was primarily due to higher international volumes through thePort of Vancouver , the onboarding of a new domestic retail customer, and the favourable impact of the change in FX. This increase was partially offset by a decrease in freight revenue per revenue ton-mile. RTMs increased more than carloads due to discontinuing expressway service in the second quarter of 2018, which had a shorter length of haul. Freight revenue per revenue ton-mile decreased due to lower fuel surcharge revenue as a result of lower fuel prices. Intermodal revenue was$1,538 million in 2018, an increase of$173 million , or 13%, from$1,365 million in 2017. This increase was primarily due to higher international volumes through thePort of Vancouver , higher domestic wholesale volumes, as well as higher fuel surcharge revenue as a result of higher fuel prices. This was partially offset by the unfavourable impact of the change in FX. RTMs increased more than carloads due to discontinuing expressway service, and an increased length of haul for international intermodal volume moving through thePort of Vancouver . --------------------------------------------------------------------------------
47 / SERVICE EXCELLENCE Operating Expenses
[[Image Removed: chart-514007fcbbc256ca8d7a01.jpg]][[Image Removed: chart-af971e4e5002578b914a01.jpg]][[Image Removed: chart-87e3b539e5875d808b2a01.jpg]] 2019 Operating Expenses 2018 Operating Expenses 2017 Operating Expenses
2019 vs. 2018 2018 vs. 2017 For the year ended FX Adjusted % FX Adjusted % December 31 (in millions) 2019 2018 2017 Total Change % Change Change(1) Total Change % Change Change(1) Compensation and benefits$ 1,540 $ 1,468 $ 1,309 $ 72 5 4$ 159 12 12 Fuel 882 918 677 (36 ) (4 ) (6 ) 241 36 36 Materials 210 201 190 9 4 4 11 6 6 Equipment rents 137 130 142 7 5 3 (12 ) (8 ) (8 ) Depreciation and amortization 706 696 661 10 1 1 35 5 5 Purchased services and other 1,193 1,072 1,056 121 11 10 16 2 2
Total operating expenses
(1) FX adjusted % change does not have any standardized meaning prescribed by GAAP and, therefore, is unlikely to be comparable to similar measures presented by other companies. FX adjusted % change is defined and reconciled in Non-GAAP Measures of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.
Operating expenses were
2019 of
• higher stock-based compensation primarily driven by an increase in stock
price of$58 million ; • cost inflation;
• the unfavourable impact of the change in FX of
• increased weather related costs as a result of harsh winter operating
conditions in the first quarter of 2019; and
• higher volume variable expenses.
This increase was partially offset by the favourable impact from changes in fuel prices of$77 million and the efficiencies generated from improved operating performance and asset utilization.
Operating expenses were
• higher volume variable expenses;
• cost inflation;
• management transition recoveries of
Harrison's retirement as CEO of CP in 2017;
• higher depreciation and amortization due to a higher asset base as a result
of the capital program spending in 2018;
• a charge associated with a loss contingency of
• increased weather related costs as a result of harsh winter operating
conditions in the first quarter of 2018;
• higher stock-based compensation of primarily driven by stronger performance
against targets, partially offset by the changes in share price; and
• higher incentive compensation.
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This increase was partially offset by the efficiencies generated from improved operating performance and asset utilization and higher gains on land sales of$26 million mainly from the sale ofBass Lake railway line in the fourth quarter of 2018. Compensation and Benefits Compensation and benefits expense includes employee wages, salaries, fringe benefits and stock-based compensation. Compensation and benefits expense was$1,540 million in 2019, an increase of$72 million , or 5%, from$1,468 million in 2018. This increase was primarily due to: • higher stock-based compensation primarily driven by an increase in stock
price of
• the impact of wage and benefit inflation;
• the impact of harsher winter operating conditions driven by operational
inefficiencies and increased track labour and overtime;
• the unfavourable impact of the change in FX of
• higher volume variable expenses as a result of an increase in workload as
measured by GTMs. This increase was partially offset by: • lower incentive compensation;
• lower pension current service cost of
• labour efficiencies. Compensation and benefits expense was$1,468 million in 2018, an increase of$159 million , or 12% from$1,309 million in 2017. This increase was primarily due to: • higher volume variable expenses as a result of an increase in workload as
measured by GTMs;
• management transition recoveries of
Harrison's retirement as CEO of CP;
• the impact of wage and benefit inflation;
• higher stock-based compensation of primarily driven by stronger performance
against targets, partially offset by the changes in share price;
• higher incentive compensation;
• an increase in training programs; and
• harsher winter operating conditions.
This increase was partially offset by lower labour expenses due to operational efficiencies.
Fuel
Fuel expense consists mainly of fuel used by locomotives and includes provincial, state and federal fuel taxes. Fuel expense was$882 million in 2019, a decrease of$36 million , or 4%, from$918 million in 2018. This decrease was primarily due to the favourable impact of lower fuel prices of$77 million .
This decrease was partially offset by an increase in workload, as measured by
GTMs, and the unfavourable impact of the change in FX of
Fuel expense was
• an increase in workload, as measured by GTMs; and
• a fuel tax recovery received in 2017 that related to prior periods of
million.
This increase was partially offset by improvements in fuel efficiency of approximately 3%.
Materials
Materials expense includes the cost of material used for maintenance of track, locomotives, freight cars and buildings as well as software sustainment. Materials expense was$210 million in 2019, an increase of$9 million , or 4%, from$201 million in 2018. This increase was primarily due to: • higher spending on locomotive maintenance and overhauls;
• weather related materials;
• cost inflation; and
• the unfavourable impact of the change in FX of
This increase was partially offset by higher recoveries from foreign freight car maintenance.
Materials expense was$201 million in 2018, an increase of$11 million , or 6%, from$190 million in 2017. This increase was primarily due to higher locomotive maintenance and higher non-locomotive fuel costs. --------------------------------------------------------------------------------
49 / SERVICE EXCELLENCE Equipment Rents Equipment rents expense includes the cost associated with using other companies' freight cars, intermodal equipment and locomotives, net of rental income received from other railways for the use of CP's equipment. Equipment rents expense was$137 million in 2019, an increase of$7 million , or 5%, from$130 million in 2018. This increase was primarily due to greater usage of pooled freight cars and the unfavourable impact of the change in FX of$3 million . Equipment rents expense was$130 million in 2018, a decrease of$12 million , or 8%, from$142 million in 2017. This decrease was primarily due to the purchase or return of leased freight cars and lower usage of pooled intermodal containers reducing rental expenses by$7 million , and a$4 million increase in receipts from other railways' use of CP equipment. Depreciation and Amortization Depreciation and amortization expense represents the charge associated with the use of track and roadway, buildings, rolling stock, information systems and other depreciable assets. Depreciation and amortization expense was$706 million for 2019, an increase of$10 million , or 1%, from$696 million in 2018. This increase was primarily due to a higher asset base, as a result of the capital program spending in 2019, and the unfavourable impact of the change in FX of$4 million , partially offset by the impact of depreciation studies and other adjustments. Depreciation and amortization expense was$696 million for 2018, an increase of$35 million , or 5%, from$661 million in 2017. This increase was primarily due to higher asset base as a result of higher capital program spending in 2018. Purchased Services and Other 2019 vs. 2018 2018 vs. 2017 For the year ended December 31 (in millions) 2019 2018 2017 Total Change % Change Total Change % Change Support and facilities$ 278 $ 264 $ 266 $ 14 5$ (2 ) (1 ) Track and operations 278 268 251 10 4 17 7 Intermodal 222 221 197 1 - 24 12 Equipment 125 143 157 (18 ) (13 ) (14 ) (9 ) Casualty 149 73 72 76 104 1 1 Property taxes 133 124 121 9 7 3 2 Other 29 20 7 9 45 13 186 Land sales (21 ) (41 ) (15 ) 20 (49 ) (26 ) 173 Total Purchased services and other$ 1,193 $ 1,072 $ 1,056 $ 121 11$ 16 2 Purchased services and other expense encompasses a wide range of third-party costs, including contractor and consulting fees, locomotive and freight car repairs performed by third parties, property and other taxes, intermodal pickup and delivery services, casualty expense, expenses for joint facilities and gains on land sales. Purchased services and other expense was$1,193 million in 2019, an increase of$121 million , or 11%, from$1,072 million in 2018. This increase was primarily due to: • an increase in number and severity of casualty incidents of$73 million
(excluding FX), which were the result of difficult operating conditions due
to weather in the first half of 2019, reported in Casualty;
• lower gains on land sales of
the
• the unfavourable impact of the change in FX of
• an increase in legal fees, reported in Support and facilities;
• higher snow removal and other weather related costs; and
• higher property taxes due to higher tax rates.
This increase was partially offset by:
• a decrease in charges associated with contingencies of
in Other;
• a decrease in costs for locomotive warranty service agreements due to the
insourcing of maintenance of certain locomotives in the company's fleet,
reported in Equipment; and
• costs related to labour disruptions in the second quarter of 2018, reported
in Track and operations.
Purchased services and other expense was$1,072 million in 2018, an increase of$16 million , or 2%, from$1,056 million in 2017. This increase was primarily due to: • a charge associated with a loss contingency of$20 million , reported in Other;
• higher intermodal expenses related to pickup and delivery, reported in
Intermodal; and
• higher costs due to winter weather related impacts and costs related to
labour disruptions, reported primarily in Track and operations.
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This increase was partially offset by higher gains on land sales of$26 million mainly from the sale ofBass Lake railway line, in the fourth quarter of 2018, and lower locomotive engine overhaul expenses as a greater proportion of this work was capital in nature in 2018, reported in Equipment. Other Income Statement Items Other (Income) Expense Other (income) expense consists of gains and losses from the change in FX on long-term debt and lease liabilities, working capital, costs related to financing, shareholder costs, equity income, and other non-operating expenditures. Other income was$89 million in 2019, a change of$263 million , or 151%, compared to an expense of$174 million in 2018. This change was primarily due to an FX translation gain onU.S. dollar-denominated debt and lease liabilities of$94 million , compared to an FX translation loss onU.S. dollar-denominated debt of$168 million in 2018. Other expense was$174 million in 2018, a change of$352 million , or 198%, compared to an income of$178 million in 2017. This change was primarily due to an FX translation loss onU.S. dollar-denominated debt of$168 million , compared to a gain of$186 million , and a$10 million insurance recovery of legal costs in 2017. These unfavourable changes were partially offset by a$13 million charge on the settlement and roll of forward starting swaps in 2017 and higher equity income in 2018.
FX translation gains and losses on debt and lease liabilities are discussed further in Non-GAAP Measures of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.
Other Components of Net Periodic Benefit Recovery Other components of net periodic benefit recovery were$381 million in 2019, a decrease of$3 million , or 1%, from$384 million in 2018. This decrease was primarily due to higher interest cost on the benefit obligation. Other components of net periodic benefit recovery were$384 million in 2018, an increase of$110 million or 40%, from$274 million in 2017. This increase was primarily due to the 7.75% expected rate of return in each of 2017 and 2018 being applied to a greater asset value, and a decrease in the recognized net actuarial loss. Net Interest Expense Net interest expense includes interest on long-term debt and finance leases. Net interest expense was$448 million in 2019, a decrease of$5 million , or 1%, from$453 million in 2018. This was primarily due to a net reduction in interest charges of$21 million as a result of a lower effective interest rate following the Company's refinancing of debt in 2018 and 2019, partially offset by the unfavourable impact from the change in FX of$10 million and an increase in commercial paper interest of$6 million . Net interest expense was$453 million in 2018, a decrease of$20 million , or 4%, from$473 million in 2017. This decrease was primarily due to a favourable impact of$15 million as a result of a lower effective interest rate and lower debt levels following the Company's refinancing of debt in 2018, as well as higher capitalized interest. Income Tax Expense Income tax expense was$706 million in 2019, an increase of$69 million , or 11%, from$637 million in 2018. The increase was due to: • higher taxable earnings;
• an increase in unrecognized tax benefits of
• net income tax recoveries in 2018 of
This increase was partially offset by net income tax recoveries in 2019 of
Income tax expense was$637 million in 2018, an increase of$544 million , or 585%, from$93 million in 2017. The increase is due to net income tax recoveries in 2017 of$541 million , primarily as a result ofU.S. tax reform, and higher 2018 taxable earnings, partially offset by other tax rate changes discussed above in 2018. The effective income tax rate for 2019 was 22.43% on reported income and 24.96% on Adjusted income. The effective income tax rate for 2018 was 24.64% on reported income and 24.55% on Adjusted income. Adjusted income is a Non-GAAP measure, which is discussed further in Non-GAAP Measures of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. The Company expects a 2020 effective tax rate of 25.00% . The Company's 2020 outlook for its effective tax rate is based on certain assumptions about events and developments that may or may not materialize, or that may be offset entirely or partially by new events and developments. These assumptions are discussed further in Item 1A. Risk Factors. Liquidity and Capital Resources The Company believes adequate amounts of Cash and cash equivalents are available in the normal course of business to provide for ongoing operations, including the obligations identified in the tables in Contractual Commitments of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. The Company is not aware of any trends or expected fluctuations in the Company's liquidity that would create any deficiencies. The Company's primary sources of liquidity include its Cash and cash equivalents, its commercial paper program, its bilateral letter of credit facilities, and its revolving credit facility. --------------------------------------------------------------------------------
51 / SERVICE EXCELLENCE As atDecember 31, 2019 , the Company had$133 million of Cash and cash equivalents,U.S. $1.3 billion available under its revolving credit facility, and up to$220 million available under its letter of credit facilities. As atDecember 31, 2018 , the Company had$61 million of Cash and cash equivalents,U.S. $1.0 billion available under its revolving credit facility, and up to$540 million available under its letter of credit facilities. EffectiveSeptember 27, 2019 , the Company amended and restated its revolving credit facility agreement in order to extend the maturity date of the five year facility fromJune 28, 2023 toSeptember 27, 2024 , and to establish a newU.S. $300 million facility maturingSeptember 27, 2021 , increasing the total amount available toU.S. $1.3 billion (2018 -U.S. $1.0 billion ). As atDecember 31, 2019 , the Company's revolving credit facility was undrawn (December 31, 2018 - undrawn) and the Company did not draw from its revolving credit facility during the year endedDecember 31, 2019 . The agreement requires the Company to maintain a financial covenant in conjunction with the facility. As atDecember 31, 2019 , the Company was in compliance with all terms and conditions of the credit facility arrangements and satisfied the financial covenant. The Company has a commercial paper program that enables it to issue commercial paper up to a maximum aggregate principal amount ofU.S. $1.0 billion in the form of unsecured promissory notes. This commercial paper program is backed by the revolving credit facility. As atDecember 31, 2019 , total commercial paper borrowings wereU.S. $397 million (December 31, 2018 - $nil). EffectiveSeptember 27, 2019 , the Company also reduced its bilateral letter of credit facilities to$300 million . As atDecember 31, 2019 , under its bilateral letter of credit facilities, the Company had letters of credit drawn of$80 million . This compares to letters of credit drawn of$60 million from a total available amount of$600 million as atDecember 31, 2018 . Under the bilateral letter of credit facilities, the Company has the option to post collateral in the form of Cash or cash equivalents, equal at least to the face value of the letter of credit issued. As atDecember 31, 2019 , the Company did not have any collateral posted on its bilateral letter of credit facilities (December 31, 2018 - $nil).
The following discussion of operating, investing, and financing activities describes the Company's indicators of liquidity and capital resources.
Operating Activities Cash provided by operating activities was$2,990 million in 2019, an increase of$278 million compared to$2,712 million in 2018. This increase was primarily due to advance receipts of consideration for service under freight contracts as well as higher cash generating income, compared to 2018. Cash provided by operating activities was$2,712 million in 2018, an increase of$530 million compared to$2,182 million in 2017. This increase was primarily due to higher cash generating income and a favourable change in working capital mainly due to decreased income taxes payable in 2017. Investing Activities Cash used in investing activities was$1,803 million in 2019, an increase of$345 million from$1,458 million in 2018. This increase was primarily due to the acquisition ofCentral Maine & Québec Railway ("CMQ"), higher additions to properties as discussed further below in Capital Programs, and lower proceeds from the sale of properties and other assets during 2019. Cash used in investing activities was$1,458 million in 2018, an increase of$163 million from$1,295 million in 2017. This increase was primarily due to higher additions to properties during 2018. -------------------------------------------------------------------------------- CP 2019 ANNUAL REPORT
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Capital Programs For the year endedDecember 31 (in millions, except for track miles and crossties) 2019 2018 2017 Additions to capital Track and roadway$ 1,004 $ 965 $ 958 Rolling stock and containers 426 401 198 Information systems(1) 70 86 78 Buildings and other 164 122 132 Total - accrued additions to capital 1,664 1,574
1,366
Less:
Non-cash transactions 17 23
26
Cash invested in additions to properties (per Consolidated Statements of Cash Flows)$ 1,647 $ 1,551 $ 1,340 Track installation capital programs Track miles of rail laid (miles) 246 281
313
Track miles of rail capacity expansion (miles) 11 4
4
Crossties installed (thousands) 1,122 1,015
1,138
(1) Information systems include hardware and software.
Track and roadway expenditures include the replacement and enhancement of the Company's track infrastructure. Of the$1,004 million additions in 2019 (2018 -$965 million ), approximately$918 million (2018 -$847 million ) was invested in the renewal of depleted assets, namely rail, ties, ballast, signals and bridges. Approximately$27 million (2018 -$47 million ) was spent on PTC compliance requirements and$59 million (2018 -$71 million ) was invested in network improvements and growth initiatives. Rolling stock investments encompass locomotives, railcars and containers. In 2019, expenditures on locomotives were approximately$174 million (2018 -$218 million ) and were focused on the continued re-investment in CP's existing locomotive fleet. Railcar and container investments of approximately$252 million (2018 -$183 million ) were largely focused on renewal of depleted assets, including the acquisition of covered hoppers for grain transportation, and the acquisition of existing units previously held under operating leases. In 2019, CP invested approximately$70 million (2018 -$86 million ) in information systems primarily focused on rationalizing and enhancing business systems, providing real-time data, and modernizing core hardware and applications. Investments in buildings and other items were$164 million (2018 -$122 million ), and included items such as facility upgrades and renovations, vehicles and shop equipment. For 2020, CP expects to invest approximately$1.6 billion in its capital program, which will be financed with cash generated from operations. Approximately 60% to 70% of the planned capital program is for track and roadway, including PTC. Approximately 15% to 20% is expected to be allocated to rolling stock, including railcars and locomotive improvements. Approximately 5% is expected to be allocated to information services, and 10% to 15% is expected to be allocated to buildings and other. Free Cash CP generated positive Free cash of$1,357 million in 2019, an increase of$68 million from$1,289 million in 2018. This increase was primarily due to an increase in cash provided by operating activities, partially offset by higher additions to properties and lower proceeds from the sale of properties and other assets during 2019. CP generated positive Free cash of$1,289 million in 2018, an increase of$415 million from$874 million in 2017. This increase was primarily due to an increase in cash provided by operating activities, partially offset by higher additions to properties during 2018. Free cash is affected by seasonal fluctuations and by other factors including the size of the Company's capital programs. The 2019 capital programs are discussed above. Free cash is defined and reconciled in Non-GAAP Measures of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. Financing Activities Cash used in financing activities was$1,111 million in 2019, a decrease of$431 million from$1,542 million in 2018. This decrease was primarily due to the net issuance of commercial paper in 2019 and a lower principal repayment ofU.S. $350 million of the Company's 7.250% notes maturingMay 2019 , compared --------------------------------------------------------------------------------
53 / SERVICE EXCELLENCE
to the principal repayments in 2018 ofU.S. $275 million of the Company's 6.500% notes maturingMay 2018 and$375 million of the Company's 6.250% medium term notes maturingJune 2018 . This was partially offset by the issuance of$400 million 3.150% notes dueMarch 13, 2029 in 2019 compared to the issuance ofU.S. $500 million 4.000% notes dueJune 1, 2028 in 2018, and higher dividends paid during 2019. Cash used in financing activities was$1,542 million in 2018, an increase of$842 million from$700 million in 2017. This increase was primarily due to the principal repayments ofU.S. $275 million of the Company's 6.500% notes maturingMay 2018 and$375 million of the Company's 6.250% medium term notes maturingJune 2018 , and an increase in payments to buy back shares under the Company's share repurchase program, partially offset by the issuance ofU.S. $500 million 4.000% notes dueJune 1, 2028 in 2018. Credit Measures Credit ratings provide information relating to the Company's operations and liquidity, and affect the Company's ability to obtain short-term and long-term financing and/or the cost of such financing. A mid-investment grade credit rating is an important measure in assessing the Company's ability to maintain access to public financing and to minimize the cost of capital. It also affects the ability of the Company to engage in certain collateralized business activities on a cost-effective basis.
Credit ratings and outlooks are based on the rating agencies' methodologies and can change from time to time to reflect their views of CP. Their views are affected by numerous factors including, but not limited to, the Company's financial position and liquidity along with external factors beyond the Company's control.
As at
Credit ratings as atDecember 31, 2019 (1) Long-term debt Outlook
Long-term corporate credit BBB+ stable
Senior secured debt A stable Senior unsecured debt BBB+ stable Moody's Senior unsecured debt Baa1 stable Commercial paper program Standard & Poor's A-2 N/A Moody's P-2 N/A (1) Credit ratings are not recommendations to purchase, hold, or sell securities and do not address the market price or suitability of a specific security for a particular investor. Credit ratings are based on the rating agencies' methodologies and may be subject to revision or withdrawal at any time by the rating agencies. The Long-term debt to Net income ratio was 3.6 in 2019, compared with 4.5 in 2018 and 3.4 in 2017. The decrease in the ratio from 2018 to 2019 was primarily due to higher Net income, partially offset by higher debt. The increase in the ratio from 2017 to 2018 was due to lower Net income and higher debt. The Adjusted net debt to Adjusted earnings before interest, tax, depreciation, and amortization ("EBITDA") ratio was 2.4 in 2019, compared with 2.6 in 2018 and 2.6 in 2017. The decrease in ratio from 2018 to 2019 was primarily due to an increase in Adjusted EBITDA. The ratio remained unchanged between 2017 and 2018 as higher Adjusted EBITDA was offset by a higher debt balance as a result of the weakening of the Canadian dollar. Adjusted net debt to Adjusted EBITDA ratio is defined and reconciled in Non-GAAP Measures of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. Over the long term, CP targets an Adjusted net debt to Adjusted EBITDA ratio of 2.0 to 2.5. Although CP has provided a target Non-GAAP measure (Adjusted net debt to Adjusted EBITDA ratio), management is unable to reconcile, without unreasonable efforts, the target Adjusted net debt to Adjusted EBITDA ratio to the most comparable GAAP measure (Long-term debt to Net income ratio), due to unknown variables and uncertainty related to future results. These unknown variables may include unpredictable transactions of significant value. In past years, CP has recognized significant asset impairment charges, management transition costs related to senior executives and discrete tax items. These or other similar, large unforeseen transactions affect Net income but may be excluded from CP's Adjusted EBITDA. Additionally, theU.S. -to-Canada dollar exchange rate is unpredictable -------------------------------------------------------------------------------- CP 2019 ANNUAL REPORT
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and can have a significant impact on CP's reported results but may be excluded from CP's Adjusted EBITDA. In particular, CP excludes the FX impact of translating the Company's debt and lease liabilities, interest and taxes from Adjusted EBITDA. Please see Forward-Looking Statements in this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations for further discussion. Dividend Payout Ratio The dividend payout ratio was 17.9% in 2019, compared with 18.5% in 2018 and 13.3% in 2017. The decrease in the ratio from 2018 to 2019 was due to higher diluted EPS, partially offset by higher dividends declared per share. The increase in the ratio from 2017 to 2018 was primarily due to lower diluted EPS. The Adjusted dividend payout ratio was 19.1% in 2019, compared with 17.3% in 2018 and 19.2% in 2017. The increase in the ratio from 2018 to 2019 was due to higher dividends declared per share, partially offset by higher Adjusted diluted EPS. The decrease in the ratio from 2017 to 2018 was primarily due to higher Adjusted diluted EPS. Adjusted dividend payout ratio is defined and reconciled in Non-GAAP Measures of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. Over the long term, CP targets an Adjusted dividend payout ratio of 25.0% to 30.0%. Although CP has provided a target Non-GAAP measure (Adjusted dividend payout ratio), management is unable to reconcile, without unreasonable efforts, the target Adjusted dividend payout ratio to the most comparable GAAP measure (Dividend payout ratio), due to unknown variables and uncertainty related to future results. These unknown variables may include unpredictable transactions of significant value. In past years, CP has recognized significant asset impairment charges, management transition costs related to senior executives and discrete tax items. These or other similar, large unforeseen transactions affect Diluted EPS but may be excluded from CP's Adjusted diluted EPS. Additionally, theU.S. -to-Canada dollar exchange rate is unpredictable and can have a significant impact on CP's reported results but may be excluded from CP's Adjusted diluted EPS. In particular, CP excludes the FX impact of translating the Company's debt and lease liabilities, the impact from changes in income tax rates and a provision for uncertain tax item from Adjusted diluted EPS. Please see Forward-Looking Statements in this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations for further discussion. Share Capital AtFebruary 18, 2020 , the latest practicable date prior to the date of this Annual Report on Form 10-K, there were 136,748,767 Common Shares and no preferred shares issued and outstanding, which consists of 13,928 holders of record of the Common Shares. In addition, CP has a Management Stock Option Incentive Plan ("MSOIP"), under which key officers and employees are granted options to purchase the Common Shares. Each option granted can be exercised for one Common Share. AtFebruary 18, 2020 , 1,569,063 options were outstanding under the MSOIP and stand-alone option agreements entered into with Mr.Keith Creel . There are 895,948 options available to be issued by the Company's MSOIP in the future. CP has a Director's Stock Option Plan ("DSOP"), under which directors are granted options to purchase Common Shares. There are no outstanding options under the DSOP, which has 340,000 options available to be issued in the future. Non-GAAP Measures The Company presents Non-GAAP measures to provide a basis for evaluating underlying earnings and liquidity trends in the Company's business that can be compared with the results of operations in prior periods. In addition, these Non-GAAP measures facilitate a multi-period assessment of long-term profitability, allowing management and other external users of the Company's consolidated financial information to compare profitability on a long-term basis, including assessing future profitability, with that of the Company's peers. These Non-GAAP measures have no standardized meaning and are not defined by GAAP and, therefore, may not be comparable to similar measures presented by other companies. The presentation of these Non-GAAP measures is not intended to be considered in isolation from, as a substitute for, or as superior to the financial information presented in accordance with GAAP. Non-GAAP Performance Measures The Company uses Adjusted income, Adjusted diluted earnings per share, Adjusted operating income and Adjusted operating ratio to evaluate the Company's operating performance and for planning and forecasting future business operations and future profitability. These Non-GAAP measures are presented in Item 6. Selected Financial Data and discussed further in other sections of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. These Non-GAAP measures provide meaningful supplemental information regarding operating results because they exclude certain significant items that are not considered indicative of future financial trends either by nature or amount. As a result, these items are excluded for management assessment of operational performance, allocation of resources and preparation of annual budgets. These significant items may include, but are not limited to, restructuring and asset impairment charges, individually significant gains and losses from sales of assets, the FX impact of translating the Company's debt and lease liabilities, discrete tax items, and certain items outside the control of management. These items may not be non-recurring. However, excluding these significant items from GAAP results allows for a consistent understanding of the Company's consolidated financial performance when performing a multi-period assessment including assessing the likelihood of future results. Accordingly, these Non-GAAP financial measures may provide insight to investors and other external users of the Company's consolidated financial information.
In 2019, there were three significant items included in Net income as follows:
• in the fourth quarter, a deferred tax expense of
provision for an uncertain tax item of a prior period that unfavourably impacted Diluted EPS by17 cents ;
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55 / SERVICE EXCELLENCE
• in the second quarter, a deferred tax recovery of
change in the
impacted Diluted EPS by
• during the course of the year, a net non-cash gain of
million after deferred tax) due to FX translation of debt and lease liabilities as follows:
- in the fourth quarter, a
that favourably impacted Diluted EPS by22 cents ; - in the third quarter, a$25 million loss ($22 million after deferred tax) that unfavourably impacted Diluted EPS by15 cents ;
- in the second quarter, a
that favourably impacted Diluted EPS by24 cents ; and - in the first quarter, a$45 million gain ($42 million after deferred tax) that favourably impacted Diluted EPS by30 cents .
In 2018, there were two significant items included in Net income as follows:
• in the second quarter, a deferred tax recovery of
reductions in the
Diluted EPS by
• during the course of the year, a net non-cash loss of
million after deferred tax) due to FX translation of debt as follows:
- in the fourth quarter, a
tax) that unfavourably impacted Diluted EPS by72 cents ; - in the third quarter, a$38 million gain ($33 million after deferred tax) that favourably impacted Diluted EPS by23 cents ;
- in the second quarter, a
that unfavourably impacted Diluted EPS by27 cents ; and - in the first quarter, a$49 million loss ($42 million after deferred tax) that unfavourably impacted Diluted EPS by29 cents .
In 2017, there were five significant items included in Net income as follows:
• in the second quarter, a charge on hedge roll and de-designation of
million (
EPS by
• in the second quarter, an insurance recovery of a legal settlement of
million (
by
• in the first quarter, a management transition recovery of
to the retirement of Mr.
deferred tax) that favourably impacted Diluted EPS by
• during the course of the year, a net deferred tax recovery of
a result of changes in income tax rates as follows:
- in the fourth quarter, a deferred tax recovery of
due to the
- in the third quarter, a deferred tax expense of
the change in theIllinois state corporate income tax rate change that unfavourably impacted Diluted EPS by2 cents ;
- in the second quarter, a deferred tax recovery of
of the change in the
that favourably impacted Diluted EPS by
• during the course of the year, a net non-cash gain of
million after deferred tax) due to FX translation of debt as follows:
- in the fourth quarter, a
that unfavourably impacted Diluted EPS by
- in the third quarter, a
that favourably impacted Diluted EPS by
- in the second quarter, a
that favourably impacted Diluted EPS by40 cents ; and - in the first quarter, a$28 million gain ($24 million after deferred tax) that favourably impacted Diluted EPS by16 cents .
In 2016, there were two significant items included in Net income as follows:
• in the third quarter, a
related to a legal settlement that unfavourably impacted Diluted EPS by 12
cents; and
• during the course of the year, a net non-cash gain of
million after deferred tax) due to FX translation of debt as follows:
- in the fourth quarter, a
that unfavourably impacted Diluted EPS by43 cents ; - in the third quarter, a$46 million loss ($40 million after deferred tax) that unfavourably impacted Diluted EPS by27 cents ;
- in the second quarter, an
tax) that favourably impacted Diluted EPS by
- in the first quarter, a
tax) that favourably impacted Diluted EPS by
In 2015, there were four significant items included in Net income as follows:
• in the third quarter, a
related to the sale of
that favourably impacted Diluted EPS by
• in the third quarter, a
related to the early redemption premium on notes that unfavourably impacted
Diluted EPS by
• in the second quarter, a deferred income tax expense of
result of the change in the
unfavourably impacted Diluted EPS by
• during the course of the year, a net non-cash loss of
million after deferred tax) due to FX translation of debt as follows:
- in the fourth quarter, a
tax) that unfavourably impacted Diluted EPS by
- in the third quarter, a
tax) that unfavourably impacted Diluted EPS by69 cents ; - in the second quarter, a$10 million gain ($9 million after deferred tax) that favourably impacted Diluted EPS by5 cents ; and - in the first quarter, a$64 million loss ($55 million after deferred tax) that unfavourably impacted Diluted EPS by34 cents .
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Reconciliation of GAAP Performance Measures to Non-GAAP Performance Measures The following tables reconcile the most directly comparable measures presented in accordance with GAAP to the Non-GAAP measures presented in Item 6. Selected Financial Data and discussed further in other sections of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations: Adjusted income is calculated as Net income reported on a GAAP basis adjusted for significant items. For the year ended December 31 (in millions) 2019 2018 2017 2016 2015 Net income as reported$ 2,440 $ 1,951 $ 2,405 $ 1,599 $ 1,352 Less significant items (pre-tax): Legal settlement charge - - - (25 ) - Insurance recovery of legal settlement - - 10 - - Charge on hedge roll and de-designation - - (13 ) - - Gain on sale of D&H South - - - - 68 Management transition recovery - - 51 - - Impact of FX translation gain (loss) on debt and lease liabilities 94 (168 ) 186 79 (297 ) Early redemption premium on notes - - - - (47 ) Add: Tax effect of adjustments(1) 8 (18 ) 36 4 (26 ) Income tax rate changes (88 ) (21 ) (541 ) - 23 Provision for uncertain tax item 24 - - - - Adjusted income$ 2,290 $ 2,080 $ 1,666 $ 1,549 $ 1,625 (1) The tax effect of adjustments was calculated as the pre-tax effect of the adjustments multiplied by the applicable tax rate for the above items of 8.55%, 10.64%, 15.27%, 7.17% and 9.29% for the years presented, respectively. The applicable tax rates reflect the taxable jurisdictions and nature, being on account of capital or income, of the significant items.
Adjusted diluted earnings per share is calculated using Adjusted income, as defined above, divided by the weighted-average diluted number of Common Shares outstanding during the period as determined in accordance with GAAP.
For the year ended
2019 2018 2017 2016 2015 Diluted earnings per share as reported$ 17.52 $ 13.61 $ 16.44 $ 10.63 $ 8.40 Less significant items (pre-tax): Legal settlement charge - - - (0.17 ) - Insurance recovery of legal settlement - - 0.07 - - Charge on hedge roll and de-designation - - (0.09 ) - - Gain on sale of D&H South - - - - 0.42 Management transition recovery - - 0.35 - - Impact of FX translation gain (loss) on debt and lease liabilities 0.67 (1.17 ) 1.27 0.53 (1.84 ) Early redemption premium on notes - - - - (0.30 ) Add: Tax effect of adjustments(1) 0.05 (0.12 ) 0.25 0.02 (0.16 ) Income tax rate changes (0.63 ) (0.15 ) (3.70 ) - 0.14 Provision for uncertain tax item 0.17 - - - - Adjusted diluted earnings per share$ 16.44 $ 14.51 $ 11.39 $
10.29
(1) The tax effect of adjustments was calculated as the pre-tax effect of the adjustments multiplied by the applicable tax rate for the above items of 8.55%, 10.64%, 15.27%, 7.17% and 9.29% for the years presented, respectively. The applicable tax rates reflect the taxable jurisdictions and nature, being on account of capital or income, of the significant items. --------------------------------------------------------------------------------
57 / SERVICE EXCELLENCE
Adjusted operating income is calculated as Operating income reported on a GAAP basis less significant items.
For the year ended December 31 (in millions) 2019 2018 2017 2016 2015
Operating income as reported
- - - - 68
Management transition recovery - - 51 - -
Adjusted operating income
Adjusted operating ratio excludes those significant items that are reported within Operating income. For the year ended December 31 2019 2018 2017 2016 2015
Operating ratio as reported 59.9 % 61.3 % 61.6 % 61.3 % 61.0 % Less significant items: Gain on sale of D&H South - - - - (1.0 ) Management transition recovery - - (0.8 ) - - Adjusted operating ratio 59.9 % 61.3 % 62.4 % 61.3 % 62.0 %
ROIC and Adjusted ROIC ROIC is calculated as Operating income less Other (income) expense and Other components of net periodic benefit recovery, tax effected at the Company's annualized effective tax rate, divided by Average invested capital. Average invested capital is defined as the sum of total Shareholders' equity, Long-term debt, Long-term debt maturing within one year and Short-term borrowing, as presented in the Company's Consolidated Financial Statements, averaged between the beginning and ending balance over a rolling 12-month period. Adjusted ROIC excludes significant items reported in Operating income, Other (income) expense, and Other components of net periodic benefit recovery in the Company's Consolidated Financial Statements, as these significant items are not considered indicative of future financial trends either by nature or amount. Adjusted average invested capital is similarly adjusted for the impact of these significant items, net of tax, on closing balances as part of this average. ROIC and Adjusted ROIC are performance measures that measure how productively the Company uses its long-term capital investments, representing critical indicators of good operating and investment decisions made by management and are important performance criteria in determining certain elements of the Company's long-term incentive plan. ROIC and Adjusted ROIC are presented in Item 6. Selected Financial Data and discussed further in Results of Operations of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. Calculation of ROIC For the year ended December 31 (in millions, except for percentages) 2019 2018 2017 2016 2015 Operating income$ 3,124 $ 2,831 $ 2,519 $ 2,411 $ 2,618 Less: Other (income) expense (89 ) 174 (178 ) (45 ) 335 Other components of net periodic benefit recovery (381 ) (384 ) (274 ) (167 ) (70 ) Tax(1) 806 749 111 675 728$ 2,788 $ 2,292 $ 2,860 $ 1,948 $ 1,625 Average invested capital$ 15,579 $ 14,964 $ 13,961 $ 13,532 $ 12,561 ROIC 17.9 % 15.3 % 20.5 % 14.4 % 12.9 % (1) Tax was calculated at the annualized effective tax rate of 22.43%, 24.64%, 3.74%, 25.72%, and 30.95% for each of the above items for the years presented, respectively. --------------------------------------------------------------------------------
CP 2019 ANNUAL REPORT / 58 Calculation of Adjusted ROIC For the year ended December 31 (in millions, except for percentages) 2019 2018 2017 2016 2015 Adjusted operating income$ 3,124 $ 2,831 $ 2,468 $ 2,411 $ 2,550 Less: Other (income) expense (89 ) 174 (178 ) (45 ) 335 Other components of net periodic benefit recovery (381 ) (384 ) (274 ) (167 ) (70 ) Significant items (pre-tax): Legal settlement charge - - - (25 ) - Insurance recovery of legal settlement - - 10 - - Charge on hedge roll and de-designation - - (13 ) - - Impact of FX translation gain (loss) on debt and lease liabilities 94 (168 ) 186 79 (297 ) Early redemption premium on notes - - - - (47 ) Tax(1) 874 788 724 673 716$ 2,626 $ 2,421 $ 2,013 $ 1,896 $ 1,913 Average invested capital$ 15,579 $ 14,964 $ 13,961 $ 13,532 $ 12,561 Less impact of periodic significant items net of tax on the above average: Income tax recovery from income tax rate changes 44 11 270 - (11 ) Provision for uncertain tax item (12 ) - - - - Legal settlement charge - - - (9 ) - Insurance recovery of legal settlement - - 4 - - Charge on hedge roll and de-designation - - (5 ) - - Gain on sale of D&H South - - - - 21 Early redemption premium on notes - - - - (18 ) Management transition recovery - - 20 - - Adjusted average for the 12 months of total shareholders' equity, long-term debt, long-term debt maturing within one year and short-term borrowing$ 15,547 $ 14,953 $ 13,672 $ 13,541 $ 12,569 Adjusted ROIC 16.9 % 16.2 % 14.7 % 14.0 % 15.2 %
(1) Tax was calculated at the adjusted annualized effective tax rate of 24.96%, 24.55% 26.42% 26.20% and 27.25% for each of the above items for the years presented, respectively.
Free Cash Free cash is calculated as Cash provided by operating activities, less Cash used in investing activities, adjusted for changes in cash and cash equivalents balances resulting from FX fluctuations, the cash settlement of hedges settled upon issuance of debt, and the acquisition of CMQ. Free cash is a measure that management considers to be an indicator of liquidity. Free cash is useful to investors and other external users of the Company's Consolidated Financial Statements as it assists with the evaluation of the Company's ability to generate cash from its operations without incurring additional external financing. The cash settlement of forward starting swaps that occurred in the second quarter of 2018 in conjunction with the issuance of long-term debt is not an indicator of CP's ongoing cash generating ability and therefore has been excluded from Free cash. Similarly, the acquisition of CMQ that occurred in the fourth quarter of 2019 is not indicative of investment trends and has also been excluded from Free cash. Positive Free cash indicates the amount of cash available for reinvestment in the business, or cash that can be returned to investors through dividends, stock repurchase programs, debt retirements or a combination of these. Conversely, negative Free cash indicates the amount of cash that must be raised from investors through new debt or equity issues, reduction in available cash balances or a combination of these. Free cash should be considered in addition to, rather than as a substitute for, Cash provided by operating activities. Free cash is presented in Item 6. Selected Financial Data and discussed further in Liquidity and Capital Resources of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. --------------------------------------------------------------------------------
59 / SERVICE EXCELLENCE
Reconciliation of Cash Provided by Operating Activities to Free Cash
For the year ended December 31 (in millions) 2019 2018 2017 2016 2015 Cash provided by operating activities$ 2,990 $ 2,712 $ 2,182 $ 2,089 $ 2,459 Cash used in investing activities (1,803 ) (1,458 ) (1,295 ) (1,069 ) (1,123 ) Effect of foreign currency fluctuations onU.S. dollar-denominated cash and cash equivalents (4 ) 11 (13 ) (13 ) 45 Less: Settlement of forward starting swaps on debt issuance - (24 ) - - - Investment inCentral Maine &Québec Railway (174 ) - - - - Free cash$ 1,357 $ 1,289 $ 874 $ 1,007 $ 1,381 Foreign Exchange Adjusted % Change FX adjusted % change allows certain financial results to be viewed without the impact of fluctuations in foreign currency exchange rates, thereby facilitating period-to-period comparisons in the analysis of trends in business performance. Financial result variances at constant currency are obtained by translating the comparable period of the prior year results denominated inU.S. dollars at the foreign exchange rates of the current period.
FX adjusted % changes in revenues are further used in calculating FX adjusted % change in freight revenue per carload and RTM. These items are presented in Operating Revenues of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.
2019 vs. 2018 2018 vs. 2017 Variance Variance due to FX Adjusted due to FX Adjusted
(in millions) Reported 2019 Reported 2018 Reported 2017
FX 2018 FX Adj. % Change FX 2017 FX Adj. % Change Freight revenues by line of business Grain $ 1,684 $ 1,566 $ 1,532$ 19 $ 1,585 6 $ -$ 1,532 2 Coal 682 673 631 2 675 1 - 631 7 Potash 462 486 411 6 492 (6 ) (1 ) 410 19 Fertilizers and sulphur 250 243 241 4 247 1 (1 ) 240 1 Forest products 304 284 265 5 289 5 (1 ) 264 8 Energy, chemicals and plastics 1,534 1,243 898 17 1,260 22 (1 ) 897 39 Metals, minerals, and consumer products 752 797 739 16 813 (8 ) (1 ) 738 8 Automotive 352 322 293 7 329 7 (2 ) 291 11 Intermodal 1,593 1,538 1,365 10 1,548 3 (1 ) 1,364 13 Freight revenues 7,613 7,152 6,375 86 7,238 5 (8 ) 6,367 12 Non-freight revenues 179 164 179 1 165 8 - 179 (8 ) Total revenues $ 7,792 $ 7,316 $ 6,554$ 87 $ 7,403 5$ (8 ) $ 6,546 12
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FX adjusted % changes in operating expenses are discussed in Operating Expenses of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. 2019 vs. 2018 2018 vs. 2017 Variance Variance due to FX Adjusted due to FX Adjusted
(in millions) Reported 2019 Reported 2018 Reported 2017
FX 2018 FX Adj. % Change FX 2017 FX Adj. % Change Compensation and benefits $ 1,540 $ 1,468 $ 1,309$ 11 $ 1,479 4$ (1 ) $ 1,308 12 Fuel 882 918 677 18 936 (6 ) - 677 36 Materials 210 201 190 1 202 4 - 190 6 Equipment rents 137 130 142 3 133 3 - 142 (8 ) Depreciation and amortization 706 696 661 4 700 1 - 661 5 Purchased services and other 1,193 1,072 1,056 11 1,083 10 (3 ) 1,053 2 Total operating expenses $ 4,668 $ 4,485 $ 4,035$ 48 $ 4,533 3$ (4 ) $ 4,031 11 Dividend Payout Ratio and Adjusted Dividend Payout Ratio Dividend payout ratio is calculated as dividends declared per share divided by Diluted EPS. Adjusted dividend payout ratio is calculated as dividends declared per share divided by Adjusted diluted EPS, as defined above. These ratios are measures of shareholder return and provide information on the Company's ability to declare dividends on an ongoing basis. Dividend payout ratio and Adjusted dividend payout ratio are presented in Item 6. Selected Financial Data and discussed further in Liquidity and Capital Resources of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.
Calculation of Dividend Payout Ratio
For the year ended December 31 (in dollars, except for percentages) 2019 2018 2017 2016 2015 Dividends declared per share$ 3.1400 $ 2.5125 $ 2.1875 $ 1.8500 $ 1.4000 Diluted EPS 17.52 13.61 16.44 10.63 8.40 Dividend payout ratio 17.9 % 18.5 % 13.3 % 17.4 % 16.7 %
Calculation of Adjusted Dividend Payout Ratio
For the year ended December 31 (in dollars, except for percentages) 2019 2018 2017 2016 2015 Dividends declared per share$ 3.1400 $ 2.5125 $ 2.1875 $ 1.8500 $ 1.4000 Adjusted diluted EPS 16.44 14.51 11.39 10.29 10.10 Adjusted dividend payout ratio 19.1 % 17.3 % 19.2 %
18.0 % 13.9 %
Long-term Debt to Net Income and Adjusted Net Debt to Adjusted EBITDA Ratios Long-term debt to Net income ratio is defined as Long-term debt, including Long-term debt maturing within one year, divided by Net income. Adjusted net debt to Adjusted EBITDA ratio is calculated as Adjusted net debt divided by Adjusted EBITDA. The Adjusted net debt to Adjusted EBITDA ratio is a key credit measure used to assess the Company's financial capacity. The ratio provides information on the Company's ability to service its debt and other long-term obligations. Long-term debt to Net income and Adjusted net debt to Adjusted EBITDA ratio are presented in Item 6. Selected Financial Data and discussed further in Liquidity and Capital Resources of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. --------------------------------------------------------------------------------
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Calculation of Long-term Debt to Net Income Ratio (in millions, except for ratios) 2019 2018 2017 2016 2015 Long-term debt including long-term debt maturing within one year as at December 31$ 8,757 $ 8,696 $ 8,159 $ 8,684 $ 8,957 Net income for the year ended December 31 2,440 1,951 2,405 1,599 1,352 Long-term debt to Net income ratio 3.6 4.5 3.4
5.4 6.6
Reconciliation of Long-term Debt to Adjusted Net Debt Adjusted net debt is defined as Long-term debt, Long-term debt maturing within one year and Short-term borrowing as reported on the Company's Consolidated Balance Sheets adjusted for pension plans deficit, operating lease liabilities recognized on the Company's Consolidated Balance Sheets, and Cash and cash equivalents. (in millions) 2019 2018 2017 2016 2015 Long-term debt including long-term debt maturing within one year as at December 31$ 8,757 $ 8,696 $ 8,159 $ 8,684 $ 8,957 Add: Pension plans deficit(1) 294 266 278 273 295 Operating lease liabilities(2) 354 387 281 361 439 Less: Cash and cash equivalents 133 61 338 164 650 Adjusted net debt as at December 31$ 9,272 $ 9,288 $ 8,380 $
9,154
(1) Pension plans deficit is the total funded status of the Pension plans in deficit only. (2) Current period amount is as reported in compliance with GAAP following the adoption of Accounting Standards Update ("ASU") 2016-02 under the cumulative-effect adjustment transition approach, discussed further in Item 8. Financial Statements and Supplementary Data, Note 2 Accounting changes. The comparative periods' amounts have not been restated and were calculated as the net present value of operating leases discounted by the Company's effective interest rate for the period presented. -------------------------------------------------------------------------------- CP 2019 ANNUAL REPORT
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Reconciliation of Net Income to EBIT, Adjusted EBIT and Adjusted EBITDA Earnings before interest and tax ("EBIT") is calculated as Net income before Net interest expense and Income tax expense. Adjusted EBIT excludes significant items reported in both Operating income and Other (income) expense. Adjusted EBITDA is calculated as Adjusted EBIT plus operating lease expense and Depreciation and amortization, less Other components of net periodic benefit recovery. For the year ended December 31 (in millions) 2019 2018 2017 2016 2015 Net income as reported$ 2,440 $ 1,951 $ 2,405 $ 1,599 $ 1,352 Add: Net interest expense 448 453 473 471 394 Income tax expense 706 637 93 553 607 EBIT 3,594 3,041 2,971 2,623 2,353 Less significant items (pre-tax): Legal settlement charge - - - (25 ) - Insurance recovery of legal settlement - - 10 - - Charge on hedge roll and de-designation - - (13 ) - - Gain on sale of D&H South - - - - 68 Management transition recovery - - 51 - - Impact of FX translation gain (loss) on debt and lease liabilities 94 (168 ) 186 79 (297 ) Early redemption premium on notes - - - - (47 ) Adjusted EBIT 3,500 3,209 2,737 2,569 2,629 Add: Operating lease expense 83 97 104 111 127 Depreciation and amortization 706 696 661 640 595 Less: Other components of net periodic benefit recovery 381 384 274 167 70 Adjusted EBITDA$ 3,908 $ 3,618 $ 3,228 $ 3,153 $ 3,281
Calculation of Adjusted Net Debt to Adjusted EBITDA Ratio (in millions, except for ratios)
2019 2018 2017 2016 2015 Adjusted net debt as at December 31$ 9,272 $ 9,288 $ 8,380 $ 9,154 $ 9,041 Adjusted EBITDA for the year ended December 31 3,908 3,618 3,228 3,153 3,281 Adjusted net debt to Adjusted EBITDA ratio 2.4 2.6 2.6
2.9 2.8
Off-Balance Sheet Arrangements Guarantees Refer to Item 8. Financial Statements and Supplementary Data, Note 27 Guarantees for details. --------------------------------------------------------------------------------
63 / SERVICE EXCELLENCE Contractual Commitments The accompanying table indicates the Company's obligations and commitments to make future payments for contracts, such as debt, leases, and commercial arrangements as atDecember 31, 2019 . Payments due by period (in millions) Total 2020 2021 & 2022 2023 & 2024 Thereafter Contractual commitments Interest on long-term debt and finance leases$ 11,117 $ 431 $ 804 $ 690$ 9,192 Long-term debt 8,692 592 842 568 6,690 Finance leases 151 7 113 13 18 Operating leases(1) 395 80 106 79 130 Supplier purchase 3,090 699 1,295 727 369 Other long-term liabilities(2) 495 53 102 99 241 Total contractual commitments$ 23,940 $ 1,862 $ 3,262 $ 2,176 $ 16,640 (1) Residual value guarantees on certain leased equipment with a maximum exposure of$2 million are not included in the minimum payments shown above, as management believes that CP will not be required to make payments under these residual guarantees. (2) Includes expected cash payments for environmental remediation, post-retirement benefits, workers' compensation benefits, long-term disability benefits, pension benefit payments for the Company's non-registered supplemental pension plan, and certain other long-term liabilities. Projected payments for post-retirement benefits, workers' compensation benefits, and long-term disability benefits include the anticipated payments for years 2020 to 2029. Pension contributions for the Company's registered pension plans are not included due to the volatility in calculating them. Pension payments are discussed further in Critical Accounting Estimates of this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. Certain Other Financial Commitments In addition to the financial commitments mentioned above, the Company is party to certain other financial commitments discussed below. Letters of Credit Letters of credit are obtained mainly to provide security to third parties under the terms of various agreements, including the supplemental pension plan. CP is liable for these contractual amounts in the case of non-performance under these agreements. Letters of credit are accommodated through a revolving credit facility and the Company's bilateral letter of credit facilities. Capital Commitments The Company remains committed to maintaining the current high level of quality of our capital assets in pursuing sustainable growth. As part of this commitment, CP has entered into contracts with suppliers to make various capital purchases related to track and rolling stock programs. Payments for these commitments are due in 2020 through 2032. These expenditures are expected to be financed by cash generated from operations or by issuing new debt. The accompanying table indicates the Company's commitments to make future payments for letters of credit and capital expenditures as atDecember 31, 2019 . Payments due by period (in millions) Total 2020 2021 & 2022 2023 & 2024 Thereafter Certain other financial commitments Letters of credit$ 80 $ 80 $ - $ - $ - Capital commitments 664 332 200 61 71 Total certain other financial commitments$ 744 $ 412 $ 200 $ 61 $ 71 Critical Accounting Estimates To prepare the Consolidated Financial Statements that conform with GAAP, the Company is required to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the Consolidated Financial Statements and the reported amounts of revenues and expenses during the reported periods. Using the most current information available, the Company reviews estimates on an ongoing basis, including those related to environmental liabilities, pensions and other benefits, property, plant and equipment, deferred income taxes, and personal injury and other claims liabilities.
The development, selection and disclosure of these estimates, and this
Management's Discussion and Analysis of Financial Condition and Results of
Operations, have been reviewed by the Board of Directors'
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Environmental Liabilities Environmental remediation accruals cover site-specific remediation programs. CP estimates of the probable costs to be incurred in the remediation of properties contaminated by past railway use reflect the nature of contamination at individual sites according to typical activities and scale of operations conducted. The Company screens and classifies sites according to typical activities and scale of operations conducted. CP has developed remediation strategies for each property based on the nature and extent of the contamination, as well as the location of the property and surrounding areas that may be adversely affected by the presence of contaminants. CP also considers available technologies, treatment and disposal facilities and the acceptability of site-specific plans based on the local regulatory environment. Site-specific plans range from containment and risk management of the contaminants through to the removal and treatment of the contaminants and affected soils and groundwater. The details of the estimates reflect the environmental liability at each property. The Company is committed to fully meeting regulatory and legal obligations with respect to environmental matters. Some sites include remediation activities that are projected beyond the 10-year period, which CP is unable to reasonably estimate and determine. Therefore, CP's accruals of the environmental liabilities is based on an estimate of costs for a rolling 10-year period covered by the environmental program. Payments are expected to be made over 10 years to 2029. A limited portion of the environmental accruals, the stable Perpetual Care for the environmental program, are fixed and reliably determined. This portion of the environmental liabilities is discounted using a risk-free rate, adjusted by inflation and productivity improvements. Provisions for environmental remediation costs are recorded in "Other long-term liabilities" (refer to Item 8. Financial Statements and Supplementary Data, Note 20 Other long-term liabilities), except for the current portion which is recorded in "Accounts payable and accrued liabilities" (refer to Item 8. Financial Statements and Supplementary Data, Note 17 Accounts payable and accrued liabilities). The accruals for environmental remediation represent CP's best estimate of its probable future obligations and include both asserted and unasserted claims, without reduction for anticipated recoveries from third parties. Although the recorded accruals include CP's best estimate of all probable costs, CP's total environmental remediation costs cannot be predicted with certainty. Accruals for environmental remediation may change from time to time as new information about previously untested sites becomes known, environmental laws and regulations evolve and advances are made in environmental remediation technology. The accruals may also vary as the courts decide legal proceedings against outside parties responsible for contamination. These potential charges, which cannot be quantified at this time, are not expected to be material to the Company's financial position, but may materially affect income in the period in which a charge is recognized. The environmental liabilities are also sensitive to the increase in cost of materials which would be reflected as increases to "Other long-term liabilities" and "Accounts payable and accrued liabilities" on the Company's Consolidated Balance Sheets and to "Purchased services and other" within Operating expenses on the Company's Consolidated Statements of Income. CP's cash payments for environmental initiatives are estimated to be approximately$7 million in 2020,$8 million in 2021,$9 million in 2022 and a total of approximately$55 million over the remaining years through 2029. All payments will be funded from general operations. Pensions and Other Benefits CP has defined benefit and defined contribution pension plans. Other benefits include post-retirement medical and life insurance for pensioners, and some post-employment workers' compensation and long-term disability benefits inCanada . Workers' compensation and long-term disability benefits are discussed in the Personal Injury and Other Claims Liabilities section below. Pension and post-retirement benefits liabilities are subject to various external influences and uncertainties.
Information concerning the measurement of costs for pensions and other benefits is discussed in Item 8. Financial Statements and Supplementary Data, Note 1 Summary of significant accounting policies.
Net Periodic Benefit Costs The Company reports the current service cost component of net periodic benefit cost in "Compensation and benefits" for pensions and post-retirement benefits and in "Purchased services and other" for self-insured workers' compensation and long-term disability benefits on the Company's Consolidated Statements of Income. The Other components of net periodic benefit recovery are reported as a separate line item outside of Operating income on the Company's Consolidated Statements of Income. Components of the net periodic benefit costs (credits) are as follows: 2019 2018 (in millions of Canadian Current Current dollars) service cost Other components Total service cost Other components Total Defined benefit pensions $ 107 $ (414 )$ (307 ) $ 120 $ (405 )$ (285 ) Defined contribution pensions 11 - 11 10 - 10 Post-retirement benefits 4 16 20 5 18 23 Self-insured workers' compensation and long-term disability benefits 7 17 24 7 3 10 All plans $ 129 $ (381 )$ (252 ) $ 142 $ (384 )$ (242 )
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CP estimates net periodic benefit credits for defined benefit pensions to be approximately$224 million in 2020 ($140 million in current service cost and$364 million in other components of net periodic recovery), and net periodic benefit costs for defined contribution pensions to be approximately$12 million in 2020. Net periodic benefit costs for post-retirement benefits in 2020 are not expected to differ materially from the 2019 costs. Total net periodic benefit credits for all plans are estimated to be approximately$178 million in 2020 (2019 -$252 million ), comprising$165 million (2019 -$129 million ) in current service cost and$343 million (2019 -$381 million ) in other components of net periodic recovery. The expected rate of return on the market-related asset value used to compute the net periodic benefit credit was 7.75% in 2018 and 7.50% in 2019. For computing the net periodic benefit credit in 2020, the Company is reducing this rate to 7.25% to reflect CP's current view of future long-term investment returns. Net periodic benefit costs and credits are discussed further in Item 8. Financial Statements and Supplementary Data, Note 23 Pensions and other benefits. Pension Plan Contributions The Company made contributions of$53 million to the defined benefit pension plans in 2019, compared with$36 million , which is net of a$10 million refund of plan surplus in 2018. The Company's main Canadian defined benefit pension plan accounts for nearly all of CP's pension obligation and can produce significant volatility in pension funding requirements, given the pension fund's size, the many factors that drive the pension plan's funded status and Canadian statutory pension funding requirements. The Company made voluntary prepayments of$600 million in 2011,$650 million in 2010 and$500 million in 2009 to the Company's main Canadian defined benefit pension plan. CP has applied$1,324 million of these voluntary prepayments to reduce its pension funding requirements in 2012-2019, leaving$426 million of the voluntary prepayments still available atDecember 31, 2019 to reduce CP's pension funding requirements in 2020 and future years. CP continues to have significant flexibility with respect to the rate at which the remaining voluntary prepayments are applied to reduce future years' pension contribution requirements, which allows CP to manage the volatility of future pension funding requirements. At this time, CP estimates it will not apply any of the remaining voluntary prepayments against its 2020 pension funding requirements. CP estimates its aggregate pension contributions, including its defined benefit and defined contribution plans, to be in the range of$65 million to$75 million in 2020, and in the range of$50 million to$100 million per year from 2021 to 2023. These estimates reflect the Company's current intentions with respect to the rate at which CP will apply the remaining voluntary prepayments against contribution requirements in the next few years. Future pension contributions will be highly dependent on the Company's actual experience with such variables as investment returns, interest rate fluctuations and demographic changes, on the rate at which previous years' voluntary prepayments are applied against pension contribution requirements, and on any changes in the regulatory environment. CP will continue to make contributions to the pension plans that, at a minimum, meet pension legislative requirements. Pension Plan Risks Fluctuations in the liability and net periodic benefit costs for pensions result from favourable or unfavourable investment returns and changes in long-term interest rates. The impact of favourable or unfavourable investment returns is moderated by the use of a market-related asset value for the main Canadian defined benefit pension plan's public equity securities and absolute return strategies. The impact of changes in long-term interest rates on pension obligations is partially offset by their impact on the pension funds' investments in fixed income assets. The plans' investment policy provides a target allocation of approximately 45% of the plans' assets to be invested in public equity securities. As a result, stock market performance is a key driver in determining the pension funds' asset performance. If the rate of investment return on the plans' public equity securities in 2019 had been 10% higher (or lower) than the actual 2019 rate of investment return on such securities, 2020 net periodic benefit costs for pensions would be lower (or higher) by approximately$25 million . Changes in bond yields can result in changes to discount rates and to changes in the value of fixed income assets. If the discount rate as atDecember 31, 2019 had been higher (or lower) by 0.1% with no related changes in the value of the pension funds' investment in fixed income assets, 2020 net periodic benefit costs for pensions would be lower (or higher) by approximately$13 million and 2020 current service costs for pensions would be lower (or higher) by approximately$5 million . However, a change in bond yields would also lead to a change in the value of the pension funds' investment in fixed income assets, and this change would partially offset the impact on net periodic benefit costs noted above. The Company estimates that an increase in the discount rate of 0.1% would decrease the defined benefit pension plans' projected benefit obligations by approximately$176 million , and that a decrease in the discount rate of 0.1% would increase the defined benefit pension plans' projected benefit obligations by approximately$178 million . Similarly, for every 0.1% the actual return on assets varies above (or below) the estimated return for the year, the value of the defined benefit pension plans' assets would increase (or decrease) by approximately$13 million .
Adverse experience with respect to these factors could eventually increase funding and pension expense significantly, while favourable experience with respect to these factors could eventually decrease funding and pension expense significantly.
Fluctuations in the post-retirement benefit obligation also can result from
changes in the discount rate used. A 0.1% increase (decrease) in the discount
rate would decrease (increase) the obligation by approximately
CP reviews its pensioner mortality experience to ensure that the mortality assumption continues to be appropriate, or to determine what changes to the assumption are needed.
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Property, Plant and Equipment The Company follows the group depreciation method under which a single depreciation rate is applied to the total cost in a particular class of property, despite differences in the service life or salvage value of individual properties within the same class. CP performs depreciation studies of each property asset class approximately every three years to update depreciation rates. The studies are conducted with assistance from third-party specialists and analyzed and reviewed by the Company's management. Depreciation studies forU.S. assets are reviewed and approved by theSurface Transportation Board ("STB"). Depreciation studies for Canadian assets are provided to theCanadian Transportation Agency (the "Agency"), but the Agency does not approve depreciation rates. In determining appropriate depreciation rates, management is required to make judgments and assumptions about a variety of key factors that are subject to future variability due to inherent uncertainties. These include the following: Key Assumptions Assessments • • Whole and remaining asset lives Statistical analysis of historical retirement patterns; • Evaluation of management strategy and its impact on operations and the future use of specific property assets; • Assessment of technological advances; • Engineering estimates of changes in current operations and analysis of historic, current and projected future usage; • Additional factors considered for track assets: density of traffic and whether rail is new or has been re-laid in a subsequent position; • Assessment of policies and practices for the management of assets including maintenance; and • Comparison with industry data. • • Salvage values Analysis of historical, current and estimated future salvage values. CP depreciates the cost of properties, net of salvage, on a straight-line basis over the estimated useful life of the class of property. The estimates of economic lives are uncertain and can vary due to changes in any of the assessed factors noted in the table above for whole and remaining asset lives. Additionally, the depreciation rates are updated to reflect the change in residual values of the assets in the class. It is anticipated that there will be changes in the estimates of weighted-average useful lives and net salvage for each property asset class as assets are acquired, used and retired. Substantial changes in either the useful lives of properties or the salvage assumptions could result in significant changes to depreciation expense. For example, if the estimated average life of track assets, including rail, ties, ballast and other track material, increased (or decreased) by one year, annual depreciation expense would decrease (or increase) by approximately$17 million . Due to the capital intensive nature of the railway industry, depreciation represents a significant part of operating expenses. The estimated useful lives of properties have a direct impact on the amount of depreciation recorded as a component of "Properties" on the Company's Consolidated Balance Sheets. AtDecember 31, 2019 and 2018, accumulated depreciation was$8,099 million and$7,964 million , respectively. Deferred Income Taxes CP accounts for deferred income taxes based on the liability method. This method focuses on the Company's balance sheet and the temporary differences otherwise calculated from the comparison of book versus tax values. The provision for deferred income taxes arises from temporary differences in the carrying values of assets and liabilities for financial statement and income tax purposes and the effect of loss carry forwards. It is assumed that such temporary differences will be settled in the deferred income tax assets and liabilities at the balance sheet date. In determining deferred income taxes, the Company makes estimates and assumptions regarding deferred tax matters, including estimating the timing of the realization and settlement of deferred income tax assets (including the benefit of tax losses) and liabilities, and estimating unrecognized tax benefits for uncertain tax positions. Deferred income taxes are calculated using enacted federal, provincial, and state future income tax rates, which may differ in future periods. Deferred income tax expense is included in "Income tax expense" on the Company's Consolidated Statements of Income. Additional disclosures are provided in Item 8. Financial Statements and Supplementary Data, Note 6 Income taxes. Personal Injury and Other Claims Liabilities CP estimates the potential liability arising from incidents, claims and pending litigations relating to personal injury claims by employees, third-party claims, certain occupation-related claims and property damage claims. Personal Injury InCanada , employee occupational injuries are governed by provincial workers' compensation legislation. Occupational injury claims in the provinces ofQuébec ,Ontario ,Manitoba and B.C. are self-insured and administered through each Worker's Compensation Board ("WCB"). The future costs related to occupation-related injuries are actuarially determined based on past experience and assumptions associated with the injury, compensation, income replacement, health care and administrative costs. In the four provinces where the Company is self-insured, a discount rate is applied to the future estimated costs based on market --------------------------------------------------------------------------------
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rates for investment grade corporate bonds to determine the liability. An actuarial study is performed on an annual basis. In the provinces ofSaskatchewan andAlberta , the Company is assessed an annual WCB contribution on a premium basis and this amount is not subject to estimation by management. AtDecember 31, 2019 and 2018, respectively, the WCB liability was$85 million and$81 million in "Pension and other benefit liabilities";$11 million and$12 million in "Accounts payable and accrued liabilities", offset by deposits paid to WCB of$1 million and$1 million in "Other assets" on the Company's Consolidated Balance Sheets.U.S. railway employees are covered by federal law under the Federal Employers' Liability Act ("FELA") rather than workers' compensation programs. Accruals are set for individual cases based on facts, legal opinion and statistical analysis.U.S. accruals are also set and include alleged occupational exposure or injury. Other Claims A provision for litigation matters, equipment damages or other claims will be accrued according to applicable accounting standards and any such accrual will be based on an ongoing assessment of the strengths and weaknesses of the litigation or claim and its likelihood of success, together with an evaluation of the damages or other monetary relief sought. CP accrues for probable claims when the facts of an incident become known and investigation results provide a reasonable basis for estimating the liability. The lower end of the range is accrued if the facts and circumstances permit only a range of reasonable estimates and no single amount in that range is a better estimate than any other. Facts and circumstances related to asserted claims can change, and a process is in place to monitor accruals for changes in accounting estimates. Forward-Looking Statements This Management's Discussion and Analysis of Financial Condition and Results of Operations and Annual Report on Form 10-K contains certain forward-looking statements within the meaning of the United States Private Securities Litigation Reform Act of 1995 and other relevant securities legislation, including applicable securities laws inCanada . Forward-looking statements typically include words such as "financial expectations", "key assumptions", "anticipate", "believe", "expect", "plan", "will", "outlook", "should" or similar words suggesting future outcomes. To the extent that CP has provided guidance using Non-GAAP financial measures, the Company may not be able to provide a reconciliation to a GAAP measure without unreasonable efforts, due to unknown variables and uncertainty related to future results. This Management's Discussion and Analysis of Financial Condition and Results of Operations and Annual Report on Form 10-K includes forward-looking statements relating, but not limited to statements concerning the Company's defined benefit pension expectations for 2020 and through 2023, our expectations for 2020 financial and operational performance, including our full-year guidance for expected RTM and adjusted diluted EPS growth, planned capital expenditures (including how such capital expenditures are expected to be financed), expected impacts resulting from changes in theU.S. -to-Canadian dollar exchange rate, and the effective tax rate, as well as statements concerning the Company's operations, anticipated financial performance, business prospects and strategies, including statements concerning the anticipation that cash flow from operations and various sources of financing will be sufficient to meet debt repayments and obligations in the foreseeable future and concerning anticipated capital programs, and statements regarding future payments including income taxes and pension contributions. The purpose of the 2020 Adjusted diluted EPS growth projection is to assist readers in understanding our expected and targeted financial results, and this information may not be appropriate for other purposes. The forward-looking statements contained in this Management's Discussion and Analysis of Financial Condition and Results of Operations and Annual Report on Form 10-K are based on current expectations, estimates, projections and assumptions, having regarding to the Company's experience and its perception of historical trends, and includes, but is not limited to, expectations, estimates, projections and assumptions relating to: North American and global economic growth; commodity demand growth; sustainable industrial and agricultural production; commodity prices and interest rates; foreign exchange rates (as specified herein); effective tax rates (as specified herein); performance of our assets and equipment; sufficiency of our budgeted capital expenditures in carrying out our business plan; applicable laws, regulations and government policies; the availability and cost of labour, services and infrastructure; and the satisfaction by third parties of their obligations to the Company. Although the Company believes the expectations, estimates, projections and assumptions reflected in the forward-looking statements presented herein are reasonable as of the date hereof, there can be no assurance that they will prove to be correct. Current economic conditions render assumptions, although reasonable when made, subject to greater uncertainty. Undue reliance should not be placed on forward-looking statements as actual results may differ materially from those expressed or implied by forward-looking statements. By their nature, forward-looking statements involve numerous inherent risks and uncertainties that could cause actual results to differ materially from the forward-looking statements, including but not limited to the following factors: changes in business strategies; general North American and global economic, credit and business conditions; risks associated with agricultural production such as weather conditions and insect populations; the availability and price of energy commodities; the effects of competition and pricing pressures; industry capacity; shifts in market demand; changes in commodity prices; uncertainty surrounding timing and volumes of commodities being shipped via CP; inflation; changes in laws, regulations and government policies, including regulation of rates; changes in taxes and tax rates; potential increases in maintenance and operating costs; changes in fuel prices; uncertainties of investigations, proceedings or other types of claims and litigation; labour disputes; risks and liabilities arising from derailments; transportation of dangerous goods; timing of completion of capital and maintenance projects; currency and interest rate fluctuations; effects of changes in market conditions and discount rates on the financial position of pension plans and investments; trade restrictions or other changes to international trade arrangements; climate change; and various events that could disrupt operations, including severe weather, such as droughts, floods, avalanches and earthquakes, and cybersecurity attacks, as well as security threats and governmental response to them, and technological changes. The foregoing list of factors is not exhaustive. -------------------------------------------------------------------------------- CP 2019 ANNUAL REPORT
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There are more specific factors that could cause actual results to differ materially from those described in the forward-looking statements contained in this Management's Discussion and Analysis of Financial Condition and Results of Operations and Annual Report on Form 10-K. These more specific factors are identified and discussed in Item 1A. Risk Factors. Other risks are detailed from time to time in reports filed by CP with securities regulators inCanada andthe United States . The forward-looking statements contained in this Management's Discussion and Analysis of Financial Condition and Results of Operations and Annual Report on Form 10-K are made as of the date hereof. Except as required by applicable law, CP undertakes no obligation to update publicly or otherwise revise any forward-looking statements, or the foregoing assumptions and risks affecting such forward-looking information, whether as a result of new information, future events or otherwise. --------------------------------------------------------------------------------
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