DBRS Assigns Provisional Rating to CP Rail’s New Debt Issuance of BBB, Stable Trend

DBRS has today assigned a provisional BBB rating with a Stable trend to Canadian Pacific Railway Company’s (CP or the Company) planned issuance of up to US$350 million 4.45% Notes (Notes) maturing on March 15, 2023. Proceeds from the issuance are expected to be used toward voluntary pension contributions in 2010 of up to $650 million. The impact of the transaction is modestly negative, mainly related to higher than expected debt levels, but not sufficient to warrant a change in CP’s rating or trend.

The Notes will be unsecured obligations and rank pari passu with all of CP’s existing and future unsecured and unsubordinated indebtedness. The debt offering is being made in the United States under the base shelf prospectus dated June 26, 2009, which allowed for offerings up to US$1.5 billion of debt securities. The transaction is expected to close on or about September 23, 2010.

The net proceeds from the issuance, combined with cash on hand, are to be used toward the reduction of the Company’s underfunded pension position. The voluntary contribution follows the $500 million contribution to CP’s Canadian defined benefit pension plan announced in late 2009.

The above transaction will reduce CP’s liquidity position and increase debt levels, which were previously expected to remain stable through 2010 following the cash redemption of $350 million in term debt that matured in May 2010. On a pro forma basis at June 30, 2010, debt-to-capital (unadjusted) increases to 48.5%** from 46.2%** and unadjusted debt-to-EBITDA increases to 3.17 times from 2.90 times. These ratios are viewed as relatively aggressive for the rating. Importantly, DBRS does not consider underfunded pension liabilities as debt, but acknowledges the positive benefits that will result from the aforementioned contribution in the form of lower cash pension payments going forward. However, the Company’s operating performance has improved ahead of previous expectations through the year, which helps to partly offset the impact of higher debt on credit ratios and stabilize the Company’s financial profile. While near-term uncertainty remains with respect to the pace of economic recovery, CP should continue to generate solid operating results and generate free cash flow, driven mainly by an improved volume environment, continuing price increases and efficiency gains.

DBRS will assign a final rating subject to DBRS having comfort that the Company’s final documentation is not significantly different from our expectations.

** Starting in January 2010, CP reported its financial results using U.S. GAAP as opposed to Canadian GAAP. Under U.S. GAAP, the Company made several non-cash adjustments (which has no impact on the rating) which resulted in a lower shareholder’s equity number. As such, CP leverage levels increased despite the fact that there was no change in debt levels. As at December 31, 2009, gross-debt to-capital (unadjusted for operating leases) was reported to be 41.2% under Canadian GAAP versus 50.1% under U.S. GAAP.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The applicable methodology is Rating Companies in the Transportation Industry, which can be found on our website under Methodologies.