Increased efficiency has spurred growth for CP Rail, which recently reported record fourth quarter and full year revenue.

On the other hand, potential changes to the North American Free Trade Agreement (NAFTA) would appear to threaten the railway, which has 30 per cent of its business in the U.S. But CP maintains the risk is limited due to the fact that it ships commodities that are vital to the U.S. economy.

CANADIAN PACIFIC RAILWAY LTD. (Toronto symbol CP; www.cpr.ca) transports freight over a 22,000-kilometre rail network between Montreal and Vancouver, and to hubs in the U.S. Midwest and Northeast.

Shipping commodities such as grain, forest products, coal and fertilizers, made up 73% of CP’s 2017 revenue. That was followed by intermodal (containers that travel by rail, ship and truck) at 21% and cars and auto parts at 6%.

In the three months ended December 31, 2017, CP’s revenue rose 4.6%, to $1.71 billion from $1.64 billion a year earlier. That beat the consensus forecast of $1.37 billion. That represented record revenue for the fourth quarter and for the full year as well. Higher revenue from shipping oil, metals, minerals and potash helped offset declines in fertilizers (other than potash), grain and automotive equipment.

Earnings in the quarter rose 4.7%, to $469 million from $448 million. Due to fewer shares outstanding, per-share earnings gained 5.9%, to $3.22 from $3.04.

Those figures exclude unusual items, among them a $527 million tax recovery stemming from changes to the U.S. tax code. On that basis, the latest earnings beat the consensus estimate of $3.20.

The company continues to boost its efficiency with new locomotives and train tracks, and software to optimize its trainloads and speeds. Thanks to those investments, CP’s operating ratio in the latest quarter also improved to 56.1% from 56.2% a year earlier. (Operating ratio is calculated by dividing regular operating costs by revenue. The lower the ratio is, the better.)

Blue Chip Stocks: Company crafts deal with U.S. regional railway and farmers

A big part of CP’s recent success is due to a major restructuring effort launched in 2012 by the company’s former CEO, the late Hunter Harrison. That plan aims to improve efficiency by upgrading locomotives, improving tracks and adding software that optimizes train loads and speeds. Mr. Harrison’s successor, Keith Creel, has continued these improvements.

The company earmarked $1.25 billion for upgrades to its rail operations in 2017. That’s up 5.9% from the $1.18 billion spent in 2016. About 70% of the 2017 spending was focused on replacing older equipment; CP aimed to use the remaining 30% to improve its efficiency and reliability.

In addition to new equipment, the company has found other ways to improve efficiency. For example, it’s now rolling out AutoGate at its intermodal terminals. That system uses software and specialized equipment to automate the loading and unloading of containers between trucks and trains. CP expects AutoGate will cut processing time by 50% of the current level.

The company should also benefit from a new deal with regional railway Genesee & Wyoming Inc. (New York symbol GWR) and Bluegrass Farms of Ohio.

Under this new contract, CP’s trains can now directly connect to Bluegrass’s intermodal terminal in central Ohio using G&W’s rail lines. That will let Bluegrass’s farmers ship their soybeans and other crops through the Port of Vancouver to markets in Asia. The company can also use the terminal to ship goods from Asia and other parts of North America to customers in the U.S. Midwest.

CP’s improving efficiency also puts it in a better position to handle rising demand from farmers for grain shipments, particularly in Canada. As well, the opening of a new potash mine in Saskatchewan has boosted its potash volumes.

The company can comfortably afford to keep investing in its operations. As of December 31, 2017, its long-term debt was $7.4 billion. That’s a moderate 23% of its market cap. CP also held cash of $338 million.

Under Mr. Harrison, the company preferred to use its excess cash flow to buy back shares instead of raising its dividend. That’s because the U.S.-based hedge fund that backed Mr. Harrison did not qualify for Canada’s dividend tax credit.

In 2017, however, CP’s new management raised the quarterly dividend by 12.5%, to $0.5625 a share, up from $0.50. The new annual rate of $2.25 yields 1.0%.

The company also launched a new plan to buy back up to 4.4 million of its common shares, or 3% of the total outstanding. It expects to complete those purchases by May 14, 2018. In January, the company agreed to repurchase up to 755,000 of its shares from two separate private sellers at a discount to the market price.

CP generated free cash flow (regular cash flow less capital expenditures) of $956 million for all of 2017. Regular dividends would likely total $311 million, so there’s plenty of room to increase the dividend rate.

Earnings in 2018 could reach $13.06 a share, and the stock trades at a reasonable 17.6 times that forecast.

Recommendation in The Successful Investor: CP Rail is a buy.

For our views on the best way to make a very important decision regarding blue chip stocks, read How to Identify the Best High Dividend Blue Chip Stocks.

For our recent report on the smallest of Canada’s five banks, read America is beautiful for this Canadian bank.