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EX-32.2 - EXHIBIT 32.2 - CANADIAN PACIFIC RAILWAY LTD/CNexhibit322_q22017.htm
EX-32.1 - EXHIBIT 32.1 - CANADIAN PACIFIC RAILWAY LTD/CNexhibit321_q22017.htm
EX-31.2 - EXHIBIT 31.2 - CANADIAN PACIFIC RAILWAY LTD/CNexhibit312_q22017.htm
EX-31.1 - EXHIBIT 31.1 - CANADIAN PACIFIC RAILWAY LTD/CNexhibit311_q22017.htm

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark one)
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2017
OR
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from             to
Commission File Number 001-01342
Canadian Pacific Railway Limited
(Exact name of registrant as specified in its charter)
Canada
 
98-0355078
(State or Other Jurisdiction
of Incorporation or Organization)
 
(IRS Employer
Identification No.)
 
 
7550 Ogden Dale Road S.E.
Calgary, Alberta, Canada
 
T2C 4X9
(Address of Principal Executive Offices)
 
(Zip Code)
Registrant’s Telephone Number, Including Area Code: (403) 319-7000
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes  þ    No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes  þ    No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and "emerging growth company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer þ
 
Accelerated filer o
 
Non-accelerated filer o
 
Smaller reporting company o
 
Emerging growth company o
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ
As of the close of business on July 18, 2017, there were 146,084,032 of the registrant’s Common Shares issued and outstanding.
 






CANADIAN PACIFIC RAILWAY LIMITED
FORM 10-Q
TABLE OF CONTENTS


PART I - FINANCIAL INFORMATION


 
 
Page
Item 1.
Financial Statements:
 
 
 
 
 
Interim Consolidated Statements of Income
 
     For the Three and Six Months Ended June 30, 2017 and 2016
 
 
 
 
 
Interim Consolidated Statements of Comprehensive Income
 
     For the Three and Six Months Ended June 30, 2017 and 2016
 
 
 
 
 
Interim Consolidated Balance Sheets
 
     As at June 30, 2017 and December 31, 2016
 
 
 
 
 
Interim Consolidated Statements of Cash Flows
 
     For the Three and Six Months Ended June 30, 2017 and 2016
 
 
 
 
 
Interim Consolidated Statements of Changes in Shareholders' Equity
 
     For the Six Months Ended June 30, 2017 and 2016
 
 
 
 
 
Notes to Interim Consolidated Financial Statements
 
 
 
Item 2.
Management's Discussion and Analysis of Financial Condition and Results of Operations
 
Executive Summary
 
Outlook
 
Performance Indicators
 
Financial Highlights
 
Results of Operations
 
Liquidity and Capital Resources
 
Share Capital
 
Non-GAAP Measures
 
Off-Balance Sheet Arrangements
 
Contractual Commitments
 
Critical Accounting Estimates
 
Forward-Looking Information
Item 3.
Quantitative and Qualitative Disclosures about Market Risk
Item 4.
Controls and Procedures
 
 
 
 
PART II - OTHER INFORMATION
 
Item 1.
Legal Proceedings
Item 1A.
Risk Factors
Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds
Item 3.
Defaults Upon Senior Securities
Item 4.
Mine Safety Disclosures
Item 5.
Other Information
Item 6.
Exhibits


2





PART I

ITEM 1. FINANCIAL STATEMENTS


INTERIM CONSOLIDATED STATEMENTS OF INCOME
(unaudited)
 
 
For the three months ended June 30
 
For the six months ended June 30
(in millions of Canadian dollars, except share and per share data)
2017
 
2016
 
2017
 
2016
Revenues
 
 
 
 
 
 
 
 
Freight
 
$
1,598

 
$
1,406

 
$
3,161

 
$
2,954

Non-freight
 
45

 
44

 
85

 
87

Total revenues
 
1,643

 
1,450

 
3,246

 
3,041

Operating expenses
 
 
 
 
 
 
 
 
Compensation and benefits (Note 11)
 
277

 
284

 
510

 
613

Fuel
 
160

 
131

 
330

 
256

Materials
 
48

 
38

 
97

 
94

Equipment rents
 
37

 
44

 
73

 
89

Depreciation and amortization
 
165

 
161

 
331

 
323

Purchased services and other (Note 4)
 
277

 
241

 
555

 
462

Total operating expenses
 
964

 
899

 
1,896

 
1,837

 
 
 
 
 
 
 
 
 
Operating income
 
679

 
551

 
1,350

 
1,204

Less:
 
 
 
 
 
 
 
 
Other income and charges (Note 5)
 
(61
)
 
(9
)
 
(89
)
 
(190
)
Net interest expense
 
122

 
115

 
242

 
239

Income before income tax expense
 
618

 
445

 
1,197

 
1,155

Income tax expense (Note 6)
 
138

 
117

 
286

 
287

Net income
 
$
480

 
$
328

 
$
911

 
$
868

 
 
 
 
 
 
 
 
 
Earnings per share (Note 7)
 
 
 
 
 
 
 
 
Basic earnings per share
 
$
3.28

 
$
2.16

 
$
6.22

 
$
5.70

Diluted earnings per share
 
$
3.27

 
$
2.15

 
$
6.20

 
$
5.67

 
 
 
 
 
 
 
 
 
Weighted-average number of shares (millions) (Note 7)
 
 
 
 
 
 
 
 
Basic
 
146.5

 
151.7

 
146.5

 
152.3

Diluted
 
146.9

 
152.6

 
147.0

 
153.2

 
 
 
 
 
 
 
 
 
Dividends declared per share
 
$
0.5625

 
$
0.5000

 
$
1.0625

 
$
0.8500

See Notes to Interim Consolidated Financial Statements.
 


3





INTERIM CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(unaudited)
 
For the three months ended June 30
 
For the six months ended June 30
(in millions of Canadian dollars)
2017
 
2016
 
2017
 
2016
Net income
$
480

 
$
328

 
$
911

 
$
868

Net gain in foreign currency translation adjustments, net of hedging activities
14

 
3

 
19

 
40

Change in derivatives designated as cash flow hedges
4

 
(29
)
 
9

 
(76
)
Change in pension and post-retirement defined benefit plans
37

 
43

 
75

 
90

Other comprehensive income before income taxes
55

 
17

 
103

 
54

Income tax expense on above items
(26
)
 
(7
)
 
(44
)
 
(48
)
Other comprehensive income (Note 3)
29

 
10

 
59

 
6

Comprehensive income
$
509

 
$
338

 
$
970

 
$
874

See Notes to Interim Consolidated Financial Statements.

4





INTERIM CONSOLIDATED BALANCE SHEETS AS AT
(unaudited)
 
June 30
 
December 31
(in millions of Canadian dollars)
2017
 
2016
Assets
 
 
 
Current assets
 
 
 
Cash and cash equivalents
$
238

 
$
164

Accounts receivable, net
604

 
591

Materials and supplies
192

 
184

Other current assets
85

 
70

 
1,119

 
1,009

Investments
186

 
194

Properties
16,703

 
16,689

Goodwill and intangible assets
195

 
202

Pension asset
1,261

 
1,070

Other assets
73

 
57

Total assets
$
19,537

 
$
19,221

Liabilities and shareholders’ equity
 
 
 
Current liabilities
 
 
 
Accounts payable and accrued liabilities
$
1,183

 
$
1,322

Long-term debt maturing within one year (Note 8)
762

 
25

 
1,945

 
1,347

Pension and other benefit liabilities
729

 
734

Other long-term liabilities
222

 
284

Long-term debt
7,660

 
8,659

Deferred income taxes
3,648

 
3,571

Total liabilities
14,204

 
14,595

Shareholders’ equity
 
 
 
Share capital
2,038

 
2,002

Additional paid-in capital
42

 
52

Accumulated other comprehensive loss (Note 3)
(1,740
)
 
(1,799
)
Retained earnings
4,993

 
4,371

 
5,333

 
4,626

Total liabilities and shareholders’ equity
$
19,537

 
$
19,221

Contingencies (Note 13)
See Notes to Interim Consolidated Financial Statements.






5





INTERIM CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
 
For the three months ended June 30
 
For the six months ended June 30
(in millions of Canadian dollars)
2017
 
2016
 
2017
 
2016
Operating activities
 
 
 
 
 
 
 
Net income
$
480

 
$
328

 
$
911

 
$
868

Reconciliation of net income to cash provided by operating activities:
 
 
 
 
 
 
 
Depreciation and amortization
165

 
161

 
331

 
323

Deferred income taxes (Note 6)
24

 
90

 
91

 
183

Pension funding in excess of expense (Note 12)
(59
)
 
(37
)
 
(119
)
 
(79
)
Foreign exchange loss (gain) on long-term debt (Note 5)
(67
)
 
(18
)
 
(95
)
 
(199
)
Other operating activities, net
(2
)
 
(47
)
 
(87
)
 
(113
)
Change in non-cash working capital balances related to operations
70

 
35

 
(110
)
 
(253
)
Cash provided by operating activities
611

 
512

 
922

 
730

Investing activities
 
 
 
 
 
 
 
Additions to properties
(346
)
 
(330
)
 
(576
)
 
(608
)
Proceeds from sale of properties and other assets (Note 4)
13

 
11

 
16

 
71

Other

 
(2
)
 
5

 
(2
)
Cash used in investing activities
(333
)
 
(321
)
 
(555
)
 
(539
)
Financing activities
 
 
 
 
 
 
 
Dividends paid
(73
)
 
(53
)
 
(146
)
 
(107
)
Issuance of CP Common Shares
9

 
4

 
37

 
9

Purchase of CP Common Shares (Note 9)
(142
)
 
(788
)
 
(142
)
 
(788
)
Repayment of long-term debt, excluding commercial paper
(9
)
 
(7
)
 
(14
)
 
(18
)
Net issuance of commercial paper (Note 8)

 
176

 

 
176

Settlement of forward starting swaps (Note 10)
(22
)
 

 
(22
)
 

Other

 
(1
)
 

 
(3
)
Cash used in financing activities
(237
)
 
(669
)
 
(287
)
 
(731
)
 
 
 
 
 
 
 
 
Effect of foreign currency fluctuations on U.S. dollar-denominated cash and cash equivalents
(4
)
 
(1
)
 
(6
)
 
(18
)
Cash position
 
 
 
 
 
 
 
Increase (decrease) in cash and cash equivalents
37

 
(479
)
 
74

 
(558
)
Cash and cash equivalents at beginning of period
201

 
571

 
164

 
650

Cash and cash equivalents at end of period
$
238

 
$
92

 
$
238

 
$
92

 
 
 
 
 
 
 
 
Supplemental disclosures of cash flow information:
 
 
 
 
 
 
 
Income taxes paid
$
116

 
$
65

 
$
286

 
$
257

Interest paid
$
95

 
$
92

 
$
245

 
$
247

See Notes to Interim Consolidated Financial Statements.

 


6





INTERIM CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY
(unaudited)
(in millions of Canadian dollars, except common share amounts)
 
Common shares (in millions)

 
Share
capital

Additional
paid-in
capital

Accumulated
other
comprehensive
loss

Retained
earnings

Total
shareholders’
equity

Balance at January 1, 2017
 
146.3

 
$
2,002

$
52

$
(1,799
)
$
4,371

$
4,626

Net income
 

 



911

911

Other comprehensive income (Note 3)
 

 


59


59

Dividends declared
 

 



(156
)
(156
)
CP Common Shares repurchased (Note 9)
 
(0.7
)
 
(10
)


(133
)
(143
)
Shares issued under stock option plan
 
0.5

 
46

(10
)


36

Balance at June 30, 2017
 
146.1

 
$
2,038

$
42

$
(1,740
)
$
4,993

$
5,333

Balance at January 1, 2016
 
153.0

 
$
2,058

$
43

$
(1,477
)
$
4,172

$
4,796

Net income
 

 



868

868

Other comprehensive income (Note 3)
 

 


6


6

Dividends declared
 

 



(130
)
(130
)
Effect of stock-based compensation expense
 

 

8



8

CP Common Shares repurchased (Note 9)
 
(4.7
)
 
(70
)


(797
)
(867
)
Shares issued under stock option plan
 
0.1

 
12

(2
)


10

Balance at June 30, 2016
 
148.4

 
$
2,000

$
49

$
(1,471
)
$
4,113

$
4,691

See Notes to Interim Consolidated Financial Statements.

 


7





NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
June 30, 2017
(unaudited)

1    Basis of presentation

These unaudited interim consolidated financial statements of Canadian Pacific Railway Limited (“CP”, or “the Company”), expressed in Canadian dollars, reflect management’s estimates and assumptions that are necessary for their fair presentation in conformity with generally accepted accounting principles in the United States of America (“GAAP”). They do not include all disclosures required under GAAP for annual financial statements and should be read in conjunction with the 2016 annual consolidated financial statements and notes included in CP's 2016 Annual Report on Form 10-K. The accounting policies used are consistent with the accounting policies used in preparing the 2016 annual consolidated financial statements, except for the newly adopted accounting policies discussed in Note 2.

CP's operations can be affected by seasonal fluctuations such as changes in customer demand and weather-related issues. This seasonality could impact quarter-over-quarter comparisons.

In management’s opinion, the unaudited interim consolidated financial statements include all adjustments (consisting of normal and recurring adjustments) necessary to present fairly such information. Interim results are not necessarily indicative of the results expected for the fiscal year.

2    Accounting changes

Implemented in 2017

Compensation - Stock Compensation

In March 2016, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update (“ASU”) 2016-09, Improvements to Employee Share-based Payment Accounting, under FASB Accounting Standards Codification ("ASC") Topic 718. The amendments clarify the guidance relating to treatment of excess tax benefits and deficiencies, acceptable forfeiture rate policies, and treatment of cash paid by an employer when directly withholding shares for tax-withholding purposes and the requirement to treat such cash flows as a financing activity. As a result of this ASU, excess tax benefits are no longer recorded in additional paid-in capital and instead are applied against taxes payable or recognized in the interim consolidated statement of income. This ASU was effective for CP beginning on January 1, 2017. The Company has determined that there were no significant changes to disclosure or financial statement presentation and changes in accounting for excess tax benefits and deficiencies were not material as a result of adoption.

Simplifying the Measurement of Inventory

In July 2015, the FASB issued ASU 2015-11, Simplifying the Measurement of Inventory under FASB ASC Topic 330. The amendments require that reporting entities measure inventory at the lower of cost and net realizable value. Net realizable value is the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. The amendments apply to inventory that is measured using the first-in, first-out or average cost basis. This ASU was effective for CP beginning on January 1, 2017 and was applied prospectively. The Company determined there were no changes to disclosure, financial statement presentation, or valuation of inventory as a result of adoption.

Future changes

Leases

In February 2016, the FASB issued ASU 2016-02, Leases under FASB ASC Topic 842 which will supersede the lease recognition and measurement requirements in Topic 840 Leases. This new standard requires recognition of right-of-use assets and lease liabilities by lessees for those leases classified as finance and operating leases with a maximum term exceeding 12 months. For CP this new standard will be effective for interim and annual periods commencing January 1, 2019. Entities are required to use a modified retrospective approach to adopt this new standard meaning there will be no impact to the consolidated statements of income, however, the comparative consolidated balance sheet will be adjusted to reflect the provisions of this standard. The Company has a detailed plan to implement the new standard and is assessing contractual arrangements, through a cross functional team, that may qualify as leases under the new standard. CP is also working with a vendor to implement a lease management system which will assist in delivering the required accounting changes. During the second quarter, CP's cross functional team aggregated requirements, necessary to account for the different leases CP is involved in, that will permit the vendor to design a lease system solution for CP. The impact of the new standard will be a material increase to right of use assets and lease liabilities on the consolidated balance sheet, primarily, as a result of operating leases currently not recognized on the balance sheet. The Company does not anticipate a material impact to the consolidated statement of income and is currently evaluating the impact adoption of this new standard will have on disclosure.

8






Revenue from Contracts with Customers

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers under FASB ASC Topic 606. In March 2016, the FASB issued amendment ASU 2016-08, Revenue from Contracts with Customers: Principal versus Agent Considerations as an update under FASB ASC Topic 606. The amendments clarify the principal versus agent guidance in determining whether to recognize revenue on a gross or net basis. The guidance in Topic 606, as amended, will be effective for CP for interim and annual periods commencing January 1, 2018, and CP has the option of adopting the new standard by using either a full retrospective or a modified retrospective approach. At this point in time, CP is inclined to adopt this new standard using a modified retrospective approach, however, a final decision has yet to be made. CP has analyzed contracts for a significant proportion of the Company’s annual rail freight revenue, which represents greater than 95% of CP’s annual revenues, and has concluded that recognizing these revenues over time as rail freight services are performed continues to be appropriate. Further detailed reviews are being performed of a variety of specific contractual terms. These include assessing potential additional performance obligations, certain arrangements in the context of the new guidance on principal versus agent, contract origination and fulfillment costs, variable compensation and an assessment of required new disclosures. At this time CP does not expect a material change to revenue recognition from adopting this standard.

Intangibles - Goodwill and Other

In January 2017, the FASB issued ASU 2017-04, Simplifying the Test for Goodwill Impairment under FASB ASC Topic 350. This is intended to simplify how an entity is required to test goodwill for impairment by eliminating Step 2 from the goodwill impairment test. Step 2 measures a goodwill impairment loss by comparing the implied fair value of a reporting unit’s goodwill with the carrying amount of that goodwill. The amendments are effective for CP beginning on January 1, 2020. Entities are required to apply the amendments in this update prospectively from the date of adoption. The Company does not anticipate that the adoption of this ASU will impact CP's financial statements as there is a sufficient excess between the fair value and carrying value of CP's goodwill. Furthermore CP expects to continue to apply the Step 0 qualitative assessment when testing for goodwill impairment.

Compensation - Retirement Benefits

In March 2017, the FASB issued ASU 2017-07, Improving the Presentation of Net Periodic Pension Cost and Net Periodic Post-retirement Benefit Cost under FASB ASC Topic 715. The amendments clarify presentation requirements for net periodic pension cost and net periodic post-retirement benefit cost and require that an employer report the current service cost component in the same line item or items as other compensation costs arising from services rendered by the pertinent employees during the period. The other components of net periodic benefit cost are required to be presented in the consolidated statement of income separately from the current service cost component and outside a subtotal of income from operations if one is presented. The amendments also restrict capitalization to the current service cost component when applicable. The amendments are effective for CP beginning on January 1, 2018. The amendments related to presentation are required to be applied retrospectively and the restrictions on capitalization of the current service cost component are applicable prospectively on the date of adoption. The impacts of the reclassification are detailed as follows:
 
For the three months ended June 30
For the six months ended June 30
Year ended December 31(1)
(in millions of Canadian dollars)
2017
2016
2017
2016
2017
2016
Decrease in operating income
68

43

135

86

272

167

(1) December 31, 2017 figure is an estimate.

There will be no change to net income or earnings per share as a result of adoption of this new standard. The new guidance restricting capitalization of pensions to the current service cost component of net periodic benefit cost will have no impact to operating income or amounts capitalized because the Company currently only capitalizes an appropriate portion of current service cost for self-constructed properties. CP is currently assessing the disclosure requirements of this ASU.

9





3    Changes in accumulated other comprehensive loss ("AOCL") by component
 
For the three months ended June 30
(in millions of Canadian dollars, net of tax)
Foreign currency
net of hedging
activities
Derivatives and other
Pension and post-retirement defined benefit plans
Total
Opening balance, April 1, 2017
$
125

$
(100
)
$
(1,794
)
$
(1,769
)
Other comprehensive (loss) income before reclassifications
(1
)
(9
)

(10
)
Amounts reclassified from accumulated other comprehensive loss

12

27

39

Net current-period other comprehensive (loss) income
(1
)
3

27

29

Closing balance, June 30, 2017
$
124

$
(97
)
$
(1,767
)
$
(1,740
)
Opening balance, April 1, 2016
$
125

$
(136
)
$
(1,470
)
$
(1,481
)
Other comprehensive loss before reclassifications
(1
)
(23
)
(2
)
(26
)
Amounts reclassified from accumulated other comprehensive loss

2

34

36

Net current-period other comprehensive (loss) income
(1
)
(21
)
32

10

Closing balance, June 30, 2016
$
124

$
(157
)
$
(1,438
)
$
(1,471
)
 
For the six months ended June 30
(in millions of Canadian dollars, net of tax)
Foreign currency
net of hedging
activities
Derivatives and other
Pension and post-retirement defined benefit plans
Total
Opening balance, January 1, 2017
$
127

$
(104
)
$
(1,822
)
$
(1,799
)
Other comprehensive (loss) income before reclassifications
(3
)
(7
)

(10
)
Amounts reclassified from accumulated other comprehensive loss

14

55

69

Net current-period other comprehensive (loss) income
(3
)
7

55

59

Closing balance, June 30, 2017
$
124

$
(97
)
$
(1,767
)
$
(1,740
)
Opening balance, January 1, 2016
$
129

$
(102
)
$
(1,504
)
$
(1,477
)
Other comprehensive loss before reclassifications
(5
)
(59
)
(2
)
(66
)
Amounts reclassified from accumulated other comprehensive loss

4

68

72

Net current-period other comprehensive (loss) income
(5
)
(55
)
66

6

Closing balance, June 30, 2016
$
124

$
(157
)
$
(1,438
)
$
(1,471
)


Amounts in Pension and post-retirement defined benefit plans reclassified from AOCL:

For the three months ended June 30
 
For the six months ended June 30
(in millions of Canadian dollars)
2017
 
2016
 
2017
 
2016
Amortization of prior service costs(1)
$
(1
)
 
$
(1
)
 
$
(2
)
 
$
(3
)
Recognition of net actuarial loss(1)
38

 
48

 
77

 
97

Total before income tax
37

 
47

 
75

 
94

Income tax recovery
(10
)
 
(13
)
 
(20
)
 
(26
)
Net of income tax
$
27

 
$
34

 
$
55

 
$
68

(1) Impacts "Compensation and benefits" on the Interim Consolidated Statements of Income.

10





4    Disposition of properties

In March 2016, the Company completed the sale of CP’s Arbutus Corridor (the “Arbutus Corridor”) to the City of Vancouver for gross proceeds of $55 million. The agreement allows the Company to share in future proceeds on the eventual development and/or sale of certain parcels of the Arbutus Corridor. The Company recorded a gain on sale of $50 million ($43 million after tax) within "Purchased services and other" from the transaction during the first quarter of 2016.

5    Other income and charges

For the three months ended June 30

For the six months ended June 30
(in millions of Canadian dollars)
2017

2016

2017

2016
Foreign exchange gain on long-term debt
$
(67
)
 
$
(18
)
 
$
(95
)
 
$
(199
)
Other foreign exchange gains

 

 
(1
)
 
(7
)
Insurance recovery of legal settlement
(10
)
 

 
(10
)
 

Charge on hedge roll and de-designation (Note 10)
13

 

 
13

 

Other
3

 
9

 
4

 
16

Total other income and charges
$
(61
)
 
$
(9
)
 
$
(89
)
 
$
(190
)

6    Income taxes

For the three months ended June 30

For the six months ended June 30
(in millions of Canadian dollars)
2017

2016

2017

2016
Current income tax expense
$
114

 
$
27

 
$
195

 
$
104

Deferred income tax expense
24

 
90

 
91

 
183

Income tax expense
$
138

 
$
117

 
$
286

 
$
287


During the three months ended June 30, 2017, legislation was enacted to decrease the Saskatchewan provincial corporate income tax rate. As a result of this change, the Company recorded an income tax recovery of $17 million in the quarter related to the revaluation of its deferred income tax balances as at January 1, 2017.

The effective tax rates for the three and six months ended June 30, 2017, were 22.31% and 23.90%, respectively, compared to 26.40% and 24.86%, respectively, for the same periods in 2016.

The estimated 2017 annual effective tax rate for the three months ended June 30, 2017, excluding the foreign exchange gain of $67 million on the Company's U.S. dollar-denominated debt, an insurance recovery of $10 million on legal settlement, the $13 million charge associated with the hedge roll and de-designation, and the $17 million tax recovery described above, is 26.50%.

The estimated 2016 annual effective tax rate for the three months ended June 30, 2016, excluding the foreign exchange gain of $18 million on the Company's U.S. dollar-denominated debt, was 26.93%.

The estimated 2017 annual effective tax rate for the six months ended June 30, 2017, excluding the discrete items of the management transition recovery of $51 million related to the retirement of the Company's Chief Executive Officer, the foreign exchange gain of $95 million on the Company's U.S. dollar-denominated debt, an insurance recovery of $10 million on legal settlement, the $13 million charge associated with the hedge roll and de-designation, and the $17 million tax recovery described above, is 26.50%.

The estimated 2016 annual effective tax rate for the for the six months ended June 30, 2016, excluding the foreign exchange gain of $199 million on the Company's U.S. dollar-denominated debt, was 27.25%.


7    Earnings per share

At June 30, 2017, the number of shares outstanding was 146.1 million (June 30, 2016 - 148.4 million).
    
Basic earnings per share have been calculated using net income for the period divided by the weighted-average number of shares outstanding during the period.

The number of shares used in earnings per share calculations is reconciled as follows:

11






For the three months ended June 30
For the six months ended June 30
(in millions)
2017
2016
2017
2016
Weighted-average basic shares outstanding
146.5

151.7

146.5

152.3

Dilutive effect of stock options
0.4

0.9

0.5

0.9

Weighted-average diluted shares outstanding
146.9

152.6

147.0

153.2


For the three and six months ended June 30, 2017, there were 269,855 options and 385,928 options, respectively, excluded from the computation of diluted earnings per share because their effects were not dilutive (three and six months ended June 30, 2016 - 440,009 and 443,000, respectively).

8    Debt

Revolving credit facility

Effective June 23, 2017, the Company extended the maturity date by one year on its existing revolving U.S. $2.0 billion credit facility, which includes a U.S. $1.0 billion five-year portion and U.S. $1.0 billion one-year plus one-year term-out portion. The maturity date on the U.S. $1.0 billion one-year plus one-year term-out portion has been extended to June 27, 2019; the maturity date on the U.S. $1.0 billion five-year portion was extended to June 28, 2022.

Commercial paper program

The Company has a commercial paper program which enables it to issue commercial paper up to a maximum aggregate principal amount of U.S. $1.0 billion in the form of unsecured promissory notes. The commercial paper is backed by the U.S. $1.0 billion one-year plus one-year term-out portion of the revolving credit facility. As at June 30, 2017 and December 31, 2016, the Company had no commercial paper borrowings.

The Company presents issuances and repayments of commercial paper in the Interim Consolidated Statements of Cash Flows on a net basis, all of which have a maturity of less than 90 days.

9    Shareholders' equity

On May 10, 2017, the Company announced a new normal course issuer bid ("bid"), commencing May 15, 2017, to purchase up to 4.38 million Common Shares for cancellation before May 14, 2018.

All purchases are made in accordance with the bid at prevalent market prices plus brokerage fees, or such other prices that may be permitted by the Toronto Stock Exchange, with consideration allocated to share capital up to the average carrying amount of the shares, and any excess allocated to retained earnings. The following table provides activities under the share repurchase program:

For the three months ended June 30

For the six months ended June 30

2017

2016

2017

2016
Number of Common Shares repurchased(1)
682,900

 
5,127,800

 
682,900

 
5,127,800

Weighted-average price per share(2)
$
208.75

 
$
169.13

 
$
208.75

 
$
169.13

Amount of repurchase (in millions)(2)
$
143

 
$
867

 
$
143

 
$
867

(1) Includes shares repurchased but not yet canceled at quarter end.
(2) Includes brokerage fees.

10    Financial instruments

A. Fair values of financial instruments

The Company categorizes its financial assets and liabilities measured at fair value into a three-level hierarchy established by GAAP that prioritizes those inputs to valuation techniques used to measure fair value based on the degree to which they are observable. The three levels of the fair value hierarchy are as follows: Level 1 inputs are quoted prices in active markets for identical assets and liabilities; Level 2 inputs, other than quoted prices included within Level 1, are observable for the asset or liability either directly or indirectly; and Level 3 inputs are not observable in the market.

When possible, the estimated fair value is based on quoted market prices and, if not available, estimates from third party brokers. For non-exchange traded derivatives classified in Level 2, the Company uses standard valuation techniques to calculate fair value. Primary inputs to these techniques include observable market prices (interest, foreign exchange (FX) and commodity) and volatility, depending on the type of derivative and nature of the underlying risk. The Company uses inputs and data used by willing market

12





participants when valuing derivatives and considers its own credit default swap spread as well as those of its counterparties in its determination of fair value.

The carrying values of financial instruments equal or approximate their fair values with the exception of long-term debt which has a fair value of approximately $9,925 million (December 31, 2016 - $9,981 million) and a carrying value of $8,422 million (December 31, 2016 - $8,684 million) at June 30, 2017. The estimated fair value of current and long-term borrowings has been determined based on market information where available, or by discounting future payments of interest and principal at estimated interest rates expected to be available to the Company at period end. All derivatives and long-term debt are classified as Level 2.

B. Financial risk management

Derivative financial instruments

Derivative financial instruments may be used to selectively reduce volatility associated with fluctuations in interest rates, FX rates, the price of fuel and stock-based compensation expense. Where derivatives are designated as hedging instruments, the relationship between the hedging instruments and their associated hedged items is documented, as well as the risk management objective and strategy for the use of the hedging instruments. This documentation includes linking the derivatives that are designated as fair value or cash flow hedges to specific assets or liabilities on the Interim Consolidated Balance Sheets, commitments or forecasted transactions. At the time a derivative contract is entered into, and at least quarterly thereafter, an assessment is made as to whether the derivative item is effective in offsetting the changes in fair value or cash flows of the hedged items. The derivative qualifies for hedge accounting treatment if it is effective in substantially mitigating the risk it was designed to address.

It is not the Company’s intent to use financial derivatives or commodity instruments for trading or speculative purposes.

FX management

The Company conducts business transactions and owns assets in both Canada and the United States. As a result, the Company is exposed to fluctuations in value of financial commitments, assets, liabilities, income or cash flows due to changes in FX rates. The Company may enter into FX risk management transactions primarily to manage fluctuations in the exchange rate between Canadian and U.S. currencies. FX exposure is primarily mitigated through natural offsets created by revenues, expenditures and balance sheet positions incurred in the same currency. Where appropriate, the Company may negotiate with customers and suppliers to reduce the net exposure.

Net investment hedge

The FX gains and losses on long-term debt are mainly unrealized and can only be realized when U.S. dollar-denominated long-term debt matures or is settled. The Company also has long-term FX exposure on its investment in U.S. affiliates. The majority of the Company’s U.S. dollar-denominated long-term debt has been designated as a hedge of the net investment in foreign subsidiaries. This designation has the effect of mitigating volatility on net income by offsetting long-term FX gains and losses on U.S. dollar-denominated long-term debt and gains and losses on its net investment. The effective portion recognized in “Other comprehensive income” for the three and six months ended June 30, 2017 was an unrealized FX gain of $116 million and $162 million, respectively (three and six months ended June 30, 2016 - an unrealized FX gain of $24 million and $332 million, respectively). There was no ineffectiveness during the three and six months ended June 30, 2017 and June 30, 2016.

Interest rate management

The Company is exposed to interest rate risk, which is the risk that the fair value or future cash flows of a financial instrument will vary as a result of changes in market interest rates. In order to manage funding needs or capital structure goals, the Company enters into debt or capital lease agreements that are subject to either fixed market interest rates set at the time of issue or floating rates determined by on-going market conditions. Debt subject to variable interest rates exposes the Company to variability in interest expense, while debt subject to fixed interest rates exposes the Company to variability in the fair value of debt.

To manage interest rate exposure, the Company accesses diverse sources of financing and manages borrowings in line with a targeted range of capital structure, debt ratings, liquidity needs, maturity schedule, and currency and interest rate profiles. In anticipation of future debt issuances, the Company may enter into forward rate agreements, that are designated as cash flow hedges, to substantially lock in all or a portion of the effective future interest expense. The Company may also enter into swap agreements, designated as fair value hedges, to manage the mix of fixed and floating rate debt.

Forward starting swaps

As at June 30, 2017, the Company had forward starting floating-to-fixed interest rate swap agreements (“forward starting swaps”) totaling a notional U.S. $500 million to fix the benchmark rate on cash flows associated with highly probable forecasted issuances of long-term notes. The effective portion of changes in fair value on the forward starting swaps is recorded in “Accumulated other

13





comprehensive loss”, net of tax, as cash flow hedges until the highly probable forecasted notes are issued. Subsequent to the notes issuance, amounts in “Accumulated other comprehensive loss” are reclassified to “Net interest expense”.

During the second quarter of 2017, the Company de-designated the hedging relationship for U.S. $700 million of forward starting swaps. The Company settled a notional U.S. $200 million of forward starting swaps for a cash payment of U.S. $16 million ($22 million). The Company rolled the remaining notional U.S. $500 million of forward starting swaps and did not cash settle these swaps. The impact of the U.S. $200 million settlement and U.S. $500 million roll of the forward starting swaps was a charge of $13 million to "Other income and charges" on the Company's Interim Consolidated Statements of Income. Concurrently, the Company re-designated the forward starting swaps totaling U.S. $500 million to fix the benchmark rate on cash flows associated with highly probable forecasted issuances of long-term notes.

As at June 30, 2017, the total fair value loss of $59 million (December 31, 2016 - fair value loss of $69 million) derived from the forward starting swaps was included in “Accounts payable and accrued liabilities”. Changes in fair value from the forward starting swaps for the three and six months ended June 30, 2017 was a loss of $14 million and $12 million, respectively (three and six months ended June 30, 2016 - a loss of $32 million and $84 million, respectively). The effective portion for the three and six months ended June 30, 2017 was a loss of $13 million and $11 million, respectively, (three and six months ended June 30, 2016 - a loss of $32 million and $82 million, respectively) and is recorded in “Other comprehensive income”. In addition to the charge on hedge roll and de-designation, for the three and six months ended June 30, 2017, an ineffectiveness loss of $1 million (three and six months ended June 30, 2016 - $nil and a loss of $2 million, respectively) is recorded to “Net interest expense”.

For the three and six months ended June 30, 2017, a loss of $2 million and $5 million, respectively, related to previous forward starting swap hedges have been amortized to “Net interest expense” (three and six months ended June 30, 2016 - a loss of $3 million and $5 million, respectively). The Company expects that during the next 12 months $11 million of losses will be amortized to “Net interest expense”.

11    Stock-based compensation

At June 30, 2017, the Company had several stock-based compensation plans, including stock option plans, various cash settled liability plans and an employee stock savings plan. These plans resulted in an expense for the three and six months ended June 30, 2017 of $17 million and $5 million, respectively (three and six months ended June 30, 2016 - expense of $1 million and $15 million, respectively).

Effective January 31, 2017, Mr. E. Hunter Harrison resigned from all positions held by him at the Company, including as the Company’s Chief Executive Officer and a member of the Board of Directors of the Company. In connection with Mr. Harrison’s resignation, the Company entered into a separation agreement with Mr. Harrison. Under the terms of the separation agreement, the Company has agreed to a limited waiver of Mr. Harrison’s non-competition and non-solicitation obligations.

Effective January 31, 2017, pursuant to the separation agreement, Mr. Harrison forfeited certain pension and post-retirement benefits and agreed to the surrender for cancellation of 22,514 performance share units ("PSU"), 68,612 deferred share units ("DSU"), and 752,145 stock options.

As a result of this agreement, the Company has recognized a recovery of $51 million in "Compensation and benefits" in the first quarter of 2017. Of this amount, $27 million relates to a recovery from cancellation of certain pension benefits.

Stock option plan

In the six months ended June 30, 2017, under CP’s stock option plans, the Company issued 369,980 regular options at the weighted average price of $199.08 per share, based on the closing price on the grant date.

Pursuant to the employee plan, these regular options may be exercised upon vesting, which is between 12 months and 60 months after the grant date, and will expire after 7 years. Certain stock options granted in 2017 vest upon the achievement of specific performance criteria.


14





Under the fair value method, the fair value of the stock options at the grant date was approximately $17 million. The weighted average fair value assumptions were approximately:

For the six months ended June 30, 2017
Grant price
$199.08
Expected option life (years)(1)
5.48
Risk-free interest rate(2)
1.85%
Expected stock price volatility(3)
26.94%
Expected annual dividends per share(4)
$2.0010
Expected forfeiture rate(5)
3.0%
Weighted-average grant date fair value per option granted during the period
$45.78
(1) 
Represents the period of time that awards are expected to be outstanding. Historical data on exercise behaviour, or when available, specific expectations regarding future exercise behaviour, were used to estimate the expected life of the option.
(2) 
Based on the implied yield available on zero-coupon government issues with an equivalent remaining term at the time of the grant.
(3) 
Based on the historical stock price volatility of the Company’s stock over a period commensurate with the expected term of the option.
(4) 
Determined by the current annual dividend at the time of grant. The Company does not employ different dividend yields throughout the contractual term of the option. On May 10, 2017, the Company announced an increase in its quarterly dividend to $0.5625 per share, representing $2.2500 on an annual basis.
(5) 
The Company estimated forfeitures based on past experience. This rate is monitored on a periodic basis.

Performance share unit plan

In the six months ended June 30, 2017, the Company issued 134,991 PSUs with a grant date fair value of approximately $27 million. These units attract dividend equivalents in the form of additional units based on the dividends paid on the Company’s Common Shares. PSUs vest and are settled in cash, or in CP Common Shares, approximately three years after the grant date, contingent upon CP’s performance ("performance factor"). Grant recipients who are eligible to retire and have provided six months of service during the performance period are entitled to the full award. The fair value of PSUs is measured periodically until settlement, using a lattice-based valuation model.

The performance period for PSUs issued in the six months ended June 30, 2017 is January 1, 2017 to December 31, 2019. The performance factors for these PSUs are Return on Invested Capital, Total Shareholder Return ("TSR") compared to the S&P/ TSX Capped Industrial Index, and TSR compared to S&P 1500 Road and Rail Index.

The performance period for the PSUs issued in 2014 was January 1, 2014 to December 31, 2016. The performance factors for these PSUs were Operating Ratio, Free cash flow, TSR compared to the S&P/TSX 60 index and TSR compared to Class I railways. The resulting payout was 118% of the Company's average share price that was calculated using the last 30 trading days preceding December 31, 2016. In the first quarter of 2017, payouts occurred on the total outstanding awards, including dividends reinvested, totaling $31 million on 133,728 outstanding awards.

Deferred share unit plan

In the six months ended June 30, 2017, the Company granted 17,110 DSUs with a grant date fair value of approximately $3 million. DSUs vest over various periods of up to 48 months and are only redeemable for a specified period after employment is terminated. An expense to income for DSUs is recognized over the vesting period for both the initial subscription price and the change in value between reporting periods.


15





12    Pension and other benefits

In the three and six months ended June 30, 2017, the Company made contributions of $12 million and $24 million, respectively (three and six months ended June 30, 2016 - $14 million and $34 million, respectively), to its defined benefit pension plans. The elements of net periodic benefit cost for defined benefit pension plans and other benefits recognized in the three and six months ended June 30, 2017 included the following components:

For the three months ended June 30

Pensions

Other benefits
(in millions of Canadian dollars)
2017

2016

2017

2016
Current service cost (benefits earned by employees in the period)
$
26


$
26


$
3


$
3

Interest cost on benefit obligation
113


116


5


5

Expected return on fund assets
(223
)

(211
)




Recognized net actuarial loss
38


47




1

Amortization of prior service costs
(1
)

(1
)




Net periodic benefit (recovery) cost
$
(47
)

$
(23
)

$
8


$
9



For the six months ended June 30

Pensions

Other benefits
(in millions of Canadian dollars)
2017

2016

2017

2016
Current service cost (benefits earned by employees in the period)
$
51


$
53


$
6


$
6

Interest cost on benefit obligation
226


233


10


10

Expected return on fund assets
(446
)

(423
)




Recognized net actuarial loss
76


95


1


2

Amortization of prior service costs
(2
)

(3
)




Net periodic benefit (recovery) cost
$
(95
)

$
(45
)

$
17


$
18


13    Contingencies

In the normal course of its operations, the Company becomes involved in various legal actions, including claims relating to injuries and damage to property. The Company maintains provisions it considers to be adequate for such actions. While the final outcome with respect to actions outstanding or pending at June 30, 2017 cannot be predicted with certainty, it is the opinion of management that their resolution will not have a material adverse effect on the Company’s financial position or results of operations.

Legal proceedings related to Lac-Mégantic rail accident

On July 6, 2013, a train carrying crude oil operated by Montreal Maine and Atlantic Railway (“MMA”) or a subsidiary, Montreal Maine & Atlantic Canada Co. (“MMAC” and collectively the “MMA Group”) derailed and exploded in Lac-Mégantic, Québec. The derailment occurred on a section of railway owned and operated by the MMA Group. The previous day CP had interchanged the train to the MMA Group, and after the interchange, the MMA Group exclusively controlled the train.

Following the derailment, Québec's Minister of Sustainable Development, Environment, Wildlife and Parks (the "Minister") ordered the named parties to recover the contaminants and to clean up the derailment site. On August 14, 2013, the Minister added CP as a party (the “Amended Cleanup Order”). CP appealed the Amended Cleanup Order to the Administrative Tribunal of Québec. On July 5, 2016, the Minister served a Notice of Claim for nearly $95 million of compensation spent on cleanup, alleging that CP refused or neglected to undertake the work. On September 6, 2016, CP filed a contestation of the Notice of Claim with the Administrative Tribunal of Québec. In October 2016, CP and the Minister agreed to stay the tribunal proceedings pending the outcome of the Province of Québec's action, set out below. The Court's decision to stay the tribunal proceedings is pending, but de facto, the file has been suspended. Directly related to that matter, on July 6, 2015, the Province of Québec sued CP in Québec Superior Court claiming $409 million in derailment damages, including cleanup costs. The Province alleges that CP exercised custody or control over the crude oil lading and that CP was otherwise negligent. Therefore, CP is said to be solidarily (joint and severally) liable with third parties responsible for the accident. The Province filed a motion for leave to amend its complaint in September 2016, which motion was heard on July 14, 2017. The decision is under reserve. To date, no timetable governing the conduct of this lawsuit has been ordered by the Quebec Superior Court. This proceeding appears to be duplicative of the administrative proceedings

A class action lawsuit has also been filed in the Québec Superior Court on behalf of persons and entities residing in, owning or leasing property in, operating a business in or physically present in Lac-Mégantic at the time of the derailment (the “Class Action”).

16





That lawsuit seeks derailment damages, including for wrongful death, personal injury, and property harm. On August 16, 2013, CP was added as a defendant. On May 8, 2015, the Québec Superior Court authorized (certified) the Class Action against CP, the shipper - Western Petroleum, and the shipper’s parent - World Fuel Services (collectively, the “World Fuel Entities”). The World Fuel Entities have since settled. The plaintiffs filed a motion for leave to amend their complaint, but subsequently withdrew it.

On October 24, 2016, the Quebec Superior Court authorized class action proceedings against two additional defendants in the same matter discussed above, i.e. against MMAC and Mr. Thomas Harding. On December 9, 2016, the Quebec Superior Court granted CP’s motion seeking to confirm the validity of the opt-outs from this class action by the estates of the deceased parties following the train derailment who had opted out to allow them to sue in the United States instead (i.e. the wrongful death cases, filed in the United States, which are further discussed hereinafter). Accordingly, at present, all known wrongful death claimants in the class action have opted out and cannot re-join the Class Action. Draft Case Protocols setting out proposed timetables for the conduct of this lawsuit were submitted to the Superior Court in mid-March 2017 by the plaintiffs and defendants, respectively. On March 27, 2017 the Superior Court adopted several of the steps included in the Case Protocol submitted by CP. In accordance with the Case Protocol, CP’s statement of defence was filed by June 2, 2017. A case management conference was held before the Quebec Superior Court on July 14, 2017 to review the status of the matter and schedule the next steps in the Case Protocol. Production of documents, examinations for discovery and the exchange of expert reports by the parties are expected to occur between mid-2017 and the end of 2018. A trial date has yet to be fixed.

On July 4, 2016, eight subrogated insurers served CP with claims of approximately $16 million. On July 11, 2016, two additional subrogated insurers served CP with claims of approximately $3 million. The lawsuits do not identify the parties to which the insurers are subrogated, and therefore the extent of claim overlap and the extent that claims will be satisfied after proof of claim review and distribution from the Plans, referred to below, is difficult to determine. These lawsuits have been stayed until October 24, 2017.

In the wake of the derailment and ensuing litigation, MMAC filed for bankruptcy in Canada (the “Canadian Proceeding”) and MMA filed for bankruptcy in the United States (the “U.S. Proceeding”). Plans of arrangement have been approved in both the Canadian Proceeding and the U.S. Proceeding (the “Plans”). These Plans provide for the distribution of a fund of approximately $440 million amongst those claiming derailment damages. The Plans also provide settling parties broadly worded third-party releases and injunctions preventing lawsuits against settlement contributors. CP has not settled and therefore will not benefit from those provisions. Both Plans do, however, contain judgment reduction provisions, affording CP a credit for the greater of (i) the settlement monies received by the plaintiff(s), or (ii) the amount, in contribution or indemnity, that CP would have been entitled to charge against third parties other than MMA and MMAC, but for the Plans' releases and injunctions. CP may also have judgment reduction rights, as part of the contribution/indemnification credit, for the fault of the MMA Group. Finally, the Plans provide for a potential re-allocation of the MMA Group’s liability among plaintiffs and CP, the only non-settling party.

An Adversary Proceeding filed by the MMA U.S. bankruptcy trustee (now, estate representative) against CP, Irving Oil, and the World Fuel Entities accuses CP of failing to ensure that World Fuel Entities or Irving Oil properly classified the oil lading and of not refusing to ship the misclassified oil as packaged. By that action the estate representative seeks to recover MMA’s going concern value supposedly destroyed by the derailment. The estate representative has since settled with the World Fuel Entities and Irving Oil and now bases CP misfeasance on the railroad’s failure to abide in North Dakota by a Canadian regulation. That regulation supposedly would have caused the railroads to not move the crude oil train because an inaccurate classification was supposedly suspected. In a recently amended complaint, the estate representative named a CP affiliate, Soo Line Railroad Company ("Soo Line"), and asserts that CP and Soo Line breached terms or warranties allegedly contained in the bill of lading. CP’s motion to dismiss this amended complaint was heard on December 20, 2016. On July 7, 2017, the Maine bankruptcy court granted CP’s motion in part (by dismissing the contract claim), and denied CP’s motion in part (by allowing the negligence claim to proceed). CP intends to seek leave to appeal the decision (relating to the negligence claim) by July 21, 2017.

In response to one of CP’s motions to withdraw the Adversary Proceedings bankruptcy reference, the estate representative maintained that Canadian law rather than U.S. law controlled. The Article III court that heard the motion found that if U.S. federal regulations governed, the case was not complex enough to warrant withdrawal. Before the bankruptcy court, CP moved to dismiss for want of personal jurisdiction, but the court denied the motion because CP had participated in the bankruptcy proceedings.

Lac-Mégantic residents and wrongful death representatives commenced a class action and a mass action in Texas and wrongful death and personal injury actions in Illinois and Maine. CP removed all of these lawsuits to federal court, and a federal court thereafter consolidated those cases in Maine. These actions generally charge CP with misclassification and mis-packaging (that is, using inappropriate DOT-111 tank cars) negligence. On CP's motion, the Maine court dismissed all wrongful death and personal injury actions on several grounds on September 28, 2016. The plaintiffs’ subsequent motion for reconsideration was denied on January 9, 2017. The plaintiffs filed a notice of appeal on January 19, 2017. CP filed a motion to dismiss the appeal as untimely on April 20, 2017. Plaintiffs filed their response to the motion to dismiss on May 1, 2017. The decision on this motion is pending, and as a result, appellate briefing on the underlying judgment has not yet commenced. If the ruling is upheld on appeal these cases will be litigated, if anywhere, in Canada. As previously mentioned, these plaintiffs had previously opted-out of the Quebec Class Action in order to bring their claims in the United States. CP brought a motion on December 1, 2016 to seek a declaration from the Quebec Superior Court that the plaintiffs who had opted were precluded from opting back into the Quebec Class Action. CP’s motion was successful. Accordingly, if these plaintiffs seek to sue CP, they would have to do so in Quebec in individual actions (they could also join their individual claims in the same individual action).


17





CP received two damage to cargo notices of claims from the shipper of the oil, Western Petroleum. Western Petroleum submitted U.S. and Canadian notices of claims for the same damages and under the Carmack Amendment (49 U.S.C. Section 11706) Western Petroleum seeks to recover for all injuries associated with, and indemnification for, the derailment. Both jurisdictions permit a shipper to recover the value of damaged lading against any carrier in the delivery chain, subject to limitations in the carrier’s tariffs. CP’s tariffs significantly restrict shipper damage claim rights. Western Petroleum is part of the World Fuel Services Entities, and those companies settled with the trustee. In settlements with the estate representative the World Fuel Services Entities and the consignee (Irving Oil) assigned all claims against CP, if any, including Carmack Amendment claims. The estate representative has since designated a trust formed for the benefit of the wrongful death plaintiff to pursue those claims.

On April 12, 2016, the Trustee (the “WD Trustee”) for a wrongful death trust (the “WD Trust”), as defined and established under the confirmed Plans, sued CP in North Dakota federal court, asserting Carmack Amendment claims. The WD Trustee maintains that the estate representative assigned Carmack Amendment claims to the WD Trustee. The Plan supposedly gave the estate representative Carmack Amendment assignment rights. The WD Trustee seeks to recover amounts for damaged rail cars (approximately $6 million) and, the settlement amounts the consignor (i.e, the shipper, the World Fuel Entities) and the consignee (Irving Oil) paid to the bankruptcy estates, alleged to be $110 million and $60 million, respectively. The WD Trustee maintains that Carmack Amendment liability extends beyond lading losses to cover all derailment related damages suffered by the World Fuel Entities or Irving Oil. CP disputes this interpretation of Carmack Amendment exposure and maintains that CP’s tariffs preclude anything except a minimal recovery. CP brought a motion to dismiss the Carmack Amendment claims. On March 24, 2017 the federal court in North Dakota dismissed, with prejudice, these claims. The court determined the claims asserted by the WD Trustee were brought too late. On March 28, 2017, the WD Trustee filed a notice of appeal to the United States Court of Appeals for the Eighth Circuit. On May 19, 2017, the WD Trustee filed his appeal brief. On June 19, 2017, CP filed its responding brief. The appeal is pending and no hearing date has yet been set.

At this early stage of the proceedings, any potential responsibility and the quantum of potential losses cannot be determined. Nevertheless, CP denies liability and intends to vigorously defend against all derailment-related proceedings.

Environmental liabilities

Environmental remediation accruals, recorded on an undiscounted basis unless a reliable, determinable estimate as to an amount and timing of costs can be established, cover site-specific remediation programs.

The accruals for environmental remediation represent CP’s best estimate of its probable future obligation 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, and as 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, may materially affect income in the particular period in which a charge is recognized. Costs related to existing, but as yet unknown, or future contamination will be accrued in the period in which they become probable and reasonably estimable.

The expense included in “Purchased services and other” for the three and six months ended June 30, 2017 was $1 million and $2 million, respectively (three and six months ended June 30, 2016 - $1 million and $2 million, respectively). Provisions for environmental remediation costs are recorded in “Other long-term liabilities”, except for the current portion which is recorded in “Accounts payable and accrued liabilities”. The total amount provided at June 30, 2017 was $83 million (December 31, 2016 - $85 million). Payments are expected to be made over 10 years through 2026.

14 Condensed consolidating financial information

Canadian Pacific Railway Company, a 100%-owned subsidiary of Canadian Pacific Railway Limited (“CPRL”), is the issuer of certain debt securities, which are fully and unconditionally guaranteed by CPRL. The following tables present condensed consolidating financial information (“CCFI”) in accordance with Rule 3-10(c) of Regulation S-X.

Investments in subsidiaries are accounted for under the equity method when presenting the CCFI.

The tables include all adjustments necessary to reconcile the CCFI on a consolidated basis to CPRL’s consolidated financial statements for the periods presented.


18





Interim Condensed Consolidating Statements of Income
For the three months ended June 30, 2017    
(in millions of Canadian dollars)
CPRL (Parent Guarantor)

CPRC (Subsidiary Issuer)

Non-Guarantor Subsidiaries

Consolidating Adjustments and Eliminations

CPRL Consolidated

Revenues
 
 
 
 
 
Freight
$

$
1,129

$
469

$

$
1,598

Non-freight

34

95

(84
)
45

Total revenues

1,163

564

(84
)
1,643

Operating expenses
 
 
 
 
 
Compensation and benefits

165

111

1

277

Fuel

122

38


160

Materials

34

8

6

48

Equipment rents

39

(2
)

37

Depreciation and amortization

108

57


165

Purchased services and other

210

158

(91
)
277

Total operating expenses

678

370

(84
)
964

Operating income

485

194


679

Less:
 
 
 
 
 
Other income and charges
(5
)
(59
)
3


(61
)
Net interest (income) expense
(9
)
139

(8
)

122

Income before income tax expense and equity in net earnings of subsidiaries
14

405

199


618

Less: Income tax expense
1

62

75


138

Add: Equity in net earnings of subsidiaries
467

124


(591
)

Net income
$
480

$
467

$
124

$
(591
)
$
480


19





Interim Condensed Consolidating Statements of Income
For the three months ended June 30, 2016                    
(in millions of Canadian dollars)
CPRL (Parent Guarantor)

CPRC (Subsidiary Issuer)

Non-Guarantor Subsidiaries

Consolidating Adjustments and Eliminations

CPRL Consolidated

Revenues
 
 
 
 
 
Freight
$

$
1,007

$
399

$

$
1,406

Non-freight

33

98

(87
)
44

Total revenues

1,040

497

(87
)
1,450

Operating expenses
 
 
 
 
 
Compensation and benefits

181

102

1

284

Fuel

103

28


131

Materials

27

8

3

38

Equipment rents

53

(9
)

44

Depreciation and amortization

107

54


161

Purchased services and other

193

139

(91
)
241

Total operating expenses

664

322

(87
)
899

Operating income

376

175


551

Less:
 
 
 
 
 
Other income and charges
(4
)
(12
)
7


(9
)
Net interest expense (income)
10

111

(6
)

115

(Loss) income before income tax expense and equity in net earnings of subsidiaries
(6
)
277

174


445

Less: Income tax (recovery) expense
(6
)
70

53


117

Add: Equity in net earnings of subsidiaries
328

121


(449
)

Net income
$
328

$
328

$
121

$
(449
)
$
328

































20





Interim Condensed Consolidating Statements of Income
For the six months ended June 30, 2017
(in millions of Canadian dollars)
CPRL (Parent Guarantor)

CPRC (Subsidiary Issuer)

Non-Guarantor Subsidiaries

Consolidating Adjustments and Eliminations

CPRL Consolidated

Revenues
 
 
 
 
 
Freight
$

$
2,218

$
943

$

$
3,161

Non-freight

66

188

(169
)
85

Total revenues

2,284

1,131

(169
)
3,246

Operating expenses
 
 
 
 
 
Compensation and benefits

289

219

2

510

Fuel

254

76


330

Materials

68

17

12

97

Equipment rents

75

(2
)

73

Depreciation and amortization

217

114


331

Purchased services and other

418

320

(183
)
555

Total operating expenses

1,321

744

(169
)
1,896

Operating income

963

387


1,350

Less:
 
 
 
 
 
Other income and charges
(25
)
(66
)
2


(89
)
Net interest (income) expense
(7
)
264

(15
)

242

Income before income tax expense and equity in net earnings of subsidiaries
32

765

400


1,197

Less: Income tax expense
2

160

124


286

Add: Equity in net earnings of subsidiaries
881

276


(1,157
)

Net income
$
911

$
881

$
276

$
(1,157
)
$
911

































21





Interim Condensed Consolidating Statements of Income
For the six months ended June 30, 2016    
(in millions of Canadian dollars)
CPRL (Parent Guarantor)

CPRC (Subsidiary Issuer)

Non-Guarantor Subsidiaries

Consolidating Adjustments and Eliminations

CPRL Consolidated

Revenues
 
 
 
 
 
Freight
$

$
2,104

$
850

$

$
2,954

Non-freight

66

194

(173
)
87

Total revenues

2,170

1,044

(173
)
3,041

Operating expenses
 
 
 
 
 
Compensation and benefits

382

228

3

613

Fuel

206

50


256

Materials

65

18

11

94

Equipment rents

107

(18
)

89

Depreciation and amortization

214

109


323

Purchased services and other

329

320

(187
)
462

Total operating expenses

1,303

707

(173
)
1,837

Operating income

867

337


1,204

Less:
 
 
 
 
 
Other income and charges
(73
)
(150
)
33


(190
)
Net interest expense (income)
9

242

(12
)

239

Income before income tax expense and equity in net earnings of subsidiaries
64

775

316


1,155

Less: Income tax expense
3

181

103


287

Add: Equity in net earnings of subsidiaries
807

213


(1,020
)

Net income
$
868

$
807

$
213

$
(1,020
)
$
868

































22





Interim Condensed Consolidating Statements of Comprehensive Income
For the three months ended June 30, 2017                
(in millions of Canadian dollars)
CPRL (Parent Guarantor)

CPRC (Subsidiary Issuer)

Non-Guarantor Subsidiaries

Consolidating Adjustments and Eliminations

CPRL Consolidated

Net income
$
480

$
467

$
124

$
(591
)
$
480

Net gain (loss) in foreign currency translation
adjustments, net of hedging activities

117

(103
)

14

Change in derivatives designated as cash flow
hedges

4



4

Change in pension and post-retirement defined
benefit plans

36

1


37

Other comprehensive income (loss) before
income taxes

157

(102
)

55

Income tax expense on above items

(26
)


(26
)
Equity accounted investments
29

(102
)

73


Other comprehensive income (loss)
29

29

(102
)
73

29

Comprehensive income
$
509

$
496

$
22

$
(518
)
$
509


Interim Condensed Consolidating Statements of Comprehensive Income
For the three months ended June 30, 2016    
(in millions of Canadian dollars)
CPRL (Parent Guarantor)

CPRC (Subsidiary Issuer)

Non-Guarantor Subsidiaries

Consolidating Adjustments and Eliminations

CPRL Consolidated

Net income
$
328

$
328

$
121

$
(449
)
$
328

Net gain (loss) in foreign currency translation
adjustments, net of hedging activities

20

(17
)

3

Change in derivatives designated as cash flow
hedges

(29
)


(29
)
Change in pension and post-retirement defined benefit plans

41

2


43

Other comprehensive income (loss) before
income taxes

32

(15
)

17

Income tax expense on above items

(5
)
(2
)

(7
)
Equity accounted investments
10

(17
)

7


Other comprehensive income (loss)
10

10

(17
)
7

10

Comprehensive income
$
338

$
338

$
104

$
(442
)
$
338
























23





Interim Condensed Consolidating Statements of Comprehensive Income
For the six months ended June 30, 2017                
(in millions of Canadian dollars)
CPRL (Parent Guarantor)

CPRC (Subsidiary Issuer)

Non-Guarantor Subsidiaries

Consolidating Adjustments and Eliminations

CPRL Consolidated

Net income
$
911

$
881

$
276

$
(1,157
)
$
911

Net gain (loss) in foreign currency translation
adjustments, net of hedging activities

162

(143
)

19

Change in derivatives designated as cash flow
hedges

9



9

Change in pension and post-retirement defined
benefit plans

72

3


75

Other comprehensive income (loss) before
income taxes

243

(140
)

103

Income tax expense on above items

(43
)
(1
)

(44
)
Equity accounted investments
59

(141
)

82


Other comprehensive income (loss)
59

59

(141
)
82

59

Comprehensive income
$
970

$
940

$
135

$
(1,075
)
$
970


Interim Condensed Consolidating Statements of Comprehensive Income
For the six months ended June 30, 2016    
(in millions of Canadian dollars)
CPRL (Parent Guarantor)

CPRC (Subsidiary Issuer)

Non-Guarantor Subsidiaries

Consolidating Adjustments and Eliminations

CPRL Consolidated

Net income
$
868

$
807

$
213

$
(1,020
)
$
868

Net gain (loss) in foreign currency translation
adjustments, net of hedging activities

330

(290
)

40

Change in derivatives designated as cash flow
hedges

(76
)


(76
)
Change in pension and post-retirement defined benefit plans

86

4


90

Other comprehensive income (loss) before
income taxes

340

(286
)

54