Ulrich and Greyhound:IMHO the current ratio situation of the rail industry is not a concern. As Greyhound indicated, railroad industry current ratio has always been lower than the "ideal" ratio of 2:1. Why?
I will use the CN as an example, since I am somewhat familiar with their company and their financials.
Rails use a very high amount of capital to produce revenue. Right of way, rails, ballast, yards, locomotives, cars, etc. are LONG term assets. The CN has assets exceeding $36B which yield $12B in revenue. Rail is considered a 40 year asset with depreciation rates of about 2.5% per year. For CNI, rail and roadway constitutes $26B (net after depreciation) of the $36B in assets.
It takes considerable borrowing in order to run a railroad. Basic financial planning states that one borrows $$$ to match the life of the asset. Thus, railroads have considerable long term debt. For CNI, their LTD is $9B. Nearly every year there is a portion of that debt that becomes due and either needs to be paid in full or refinanced. In 2015 for CNI that figure as of Dec 31, 2015 was $1.4B.
That figure of $1.4B is parked in "Current liabilities" because it is due within 12 months. Now, if CNI didnt have access to borrowing capital they would need to payoff that $1.4 within 12 months. However, CNI has a credit rating of "A" and will be rolling that $1.4B over into new paper. They have registered for credit and it has been approved by Canadian (and probably US) authorities.
CNI has current assets of $2.1B and current liabilities of $3.0 hence the current ratio of .7...which seems on the verge of liquidity crisis...until one understands that $1.4B of the $3.0 is already in place (in teh form of LTD). Thus, the current ratio can be viewed as $2.1B/$1.6B or a ratio of 1.3.
Lets look further. CNI revenue was roughly $34m per day and their accounts receivable was $878million, so their days in AR is roughly 26 days. Not bad, their customers pay pretty quickly. So, that AR of $878 is turning over rapidly. With an Operating ratio of around .6, CNI is generating huge amounts of CASH each day, month or year.
So what is CNI doing with all that $$$ they are generating? Probably the most important aspect of a company and their financial reports are Cash Flow. It is difficult to play games with the Statement of Cash Flows. CNI generated $5.1B of cash last year and invested $2.8B of that, giving them free cash flow (FCF) of $2.3B. Of that $2.3B they purchased $1.7B of CNI stock at an average price of $75 per share and sent me and others dividends of nearly $1B. So, they returned $2.7B to shareholders out of $2.3B of FCF. Thus, they had to borrow a little more in order to do that. Why? A great question for their CFO, but probably due to the low interest rates today.
BTW, CNI also invested heavily in their franchise. Assets increased from $32B to $36B, primarily in "Track and Roadway".
So, for those of you who say CNI just lets their railroad fall to pieces and their OR is only due to cutting back on expenditures....think before you speak and read the annual report.
Sorry for such a long winded reply, but that is how I am wired.
Ed
Ulrich notice that railroad current ratios (current assets divided by current liabilites) are less than spectacular lately. CSX has the best ratio at 1.58 while CN (surprisingly) comes in at just .71. As this ratio measures a business's ability to meet its short term (30 day) obligations, any ratio that is less than 1 is of concern. I appreciate that current ratios are not the be all end all, just as price to earnings in and of itself doesn't tell the whole story. But still, one has to wonder, looking at some of these modest current ratios, if there are some serious clouds on the financial horizon. Any thoughts?
I don't know about trucking, but railroad current ratios have been "Bad" since I first looked at one. I'd have to see historical data and note a trend downward before expressing concern.
For most firms current assets include the finished goods inventory and, IIRC, the work in progress inventory. (i.e. current assets for Ford include cars they've built but not sold and cars that are on the assembly line. The assumption is that they can turn these cars into cash if they really need to.)
Railroads have no such inventories. This has traditionally made their current ratios look terrible when it's really just the nature of the business.
Having said that, business has just totally tanked. I don't think is so much a diversion to trucking (although you'd know more about that than myself) as it is a poor economy. (With added declines in coal and oil thrown in.) But, depending on how it effects you, there's one good (or bad) thing about a current ratio. It can be fixed quickly by laying people off and cutting back on operations.
I notice that railroad current ratios (current assets divided by current liabilites) are less than spectacular lately. CSX has the best ratio at 1.58 while CN (surprisingly) comes in at just .71. As this ratio measures a business's ability to meet its short term (30 day) obligations, any ratio that is less than 1 is of concern. I appreciate that current ratios are not the be all end all, just as price to earnings in and of itself doesn't tell the whole story. But still, one has to wonder, looking at some of these modest current ratios, if there are some serious clouds on the financial horizon. Any thoughts?
Our community is FREE to join. To participate you must either login or register for an account.