Canadian National Railway Co. (CNR-T) delivered some disappointing news this week, but investors can be forgiven for smiling at the buying opportunity the announcement has created.
A labour disruption last month shut down CN’s Canadian rail network for days and contributed to shipping uncertainty that began earlier in the year and weighed on its operations.
The disruption added to setbacks related to wildfires in Alberta and weak demand for transporting some commodities, including forestry products and metals.
As a result of these problems, the railway lowered its profit estimates for this year.
Rather than producing earnings growth in the mid-to-high single-digits – in percentage terms – which was the outlook in July, CN now expects that profits will rise in the low single digits in 2024.
That’s based on expected gains in adjusted diluted earnings per share, which tends to emphasize profits from continuing operations rather than unusual things such as shifting currency values and asset sales.
A number of analysts responded to the earnings downgrade with downgrades of their own. They trimmed their target prices, or the price at which they expect CN shares will trade within 12 months, generally by about 5 per cent.
Walter Spracklin, an analyst at RBC Dominion Securities, reduced his target price to $160 a share, down from $169 previously. Steve Hansen, an analyst at Raymond James, reduced his target to $180, down from $187.
Why should investors embrace these downbeat developments?
CN rewards investors who buy the dips, which often coincide with weaker growth or concerns about the economy. Over the past decade, there have been eight selloffs of 15 per cent or more, from peak to trough, curiously spaced so that they occur nearly once a year.
Each time, CN’s share price has rebounded to fresh highs in brisk fashion.
From December, 2022, to October, 2023, the stock slumped 17 per cent over worries about high interest rates and a possible recession; it recovered the lost ground in four months flat.
Prior to that episode, the stock fell nearly 19 per cent over a three-month period that began in March, 2022; the stock was back to new highs within five months.
In 2021, the stock retreated more than 15 per cent over a one-month period that began in April; the subsequent recovery erased the losses within just three months.
There are plenty of other examples, but you get the idea: CN’s share price doesn’t stay in the dumps for long.
Which brings us to the current turmoil. During a particularly fraught period of labour negotiations this year, CN’s share price fell 15.7 per cent from March to a low in early August, as uncertainty over work stoppages weighed on sentiment. This setback is in line with the average 17-per-cent declines seen over the past 10 years.
Already, the share price has been recovering over the past month. It is up more than 6 per cent, presumably as investors look beyond the near-term hit to profits and focus instead on CN’s fundamentals.
These include the competitive advantages of rail over trucking, improving efficiency and a glorious dearth of upstart railways – as in, there aren’t any.
Oh, and CN boasts a total return of 139 per cent, including dividends, over the past 10 years. That is 34 percentage points better than the S&P/TSX Composite Index over the same period.
This outperformance reinforces the idea that downturns can be good for intrepid investors who buy the stock for the first time, add to their existing holdings or simply hold on through tough days.
Yes, there are a couple of caveats here.
CN’s share price has been lagging the benchmark over the past five years, which means that a century-old rail network is at times no match for an index led by financials, energy producers and technology stocks.
As well, Canadian Pacific Kansas City Ltd. (CP-T), CN’s chief rival for investor attention within Canada, has been on a tear over the past few years that has pushed CN out of the spotlight.
Since CP completed its acquisition of Kansas City Southern in December, 2021 – delivering a network spanning Canada, the United States and Mexico – its shares have returned nearly 31 per cent, including dividends. The stock has outperformed CN by more than 20 percentage points over this period.
Still, CN’s trailing performance makes it the underdog, with a lower valuation. While CP’s shares trade at a lofty 27.4-times estimated 2024 earnings, CN’s price-to-earnings ratio is 20.7, according to S&P Global Market Intelligence.
That’s not a bargain. But as a dip, it’s hard to ignore.