Is Canadian National Railway the Right Stock to Retire With?

Now more than ever, a comfortable retirement depends on secure, stable investments. Unfortunately, the right stocks for retirement won't just fall into your lap. In this series, I look at 10 measures to show what makes a great retirement-oriented stock.

At its most basic level, the global economy involves moving things from place to place as efficiently as possible. With energy prices on the rise, a resurgence in the popularity of rail transportation has come in recent years. Canadian National Railway (NYS: CNI) is one railroad company seeking to cash in on that trend, with a rail network that connects the Atlantic, Pacific, and Gulf of Mexico. But can the company stand up to its railroad competition? Below, we'll look at how the company does on our 10-point scale.

The right stocks for retirees
With decades to go before you need to tap your investments, you can take greater risks, weighing the chance of big losses against the potential for mind-blowing returns. But as retirement approaches, you no longer have the luxury of waiting out a downturn.

Sure, you still want good returns, but you also need to manage your risk and protect yourself against bear markets, which can maul your finances at the worst possible time. The right stocks combine both of these elements in a single investment.

When scrutinizing a stock, retirees should look for:

  • Size. Most retirees would rather not take a flyer on unproven businesses. Bigger companies may lack their smaller counterparts' growth potential, but they do offer greater security.
  • Consistency. While many investors look for fast-growing companies, conservative investors want to see steady, consistent gains in revenue, free cash flow, and other key metrics. Slow growth won't make headlines, but it will help prevent the kind of ugly surprises that suddenly torpedo a stock's share price.
  • Stock stability. Conservative retirement investors prefer investments that move less dramatically than typical stocks, and they particularly want to avoid big losses. These investments will give up some gains during bull markets, but they won't fall as far or as fast during bear markets. Beta measures volatility, but we also want a track record of solid performance as well.
  • Valuation. No one can afford to pay too much for a stock, even if its prospects are good. Using normalized earnings multiples helps smooth out one-time effects, giving you a longer-term context.
  • Dividends. Most of all, retirees look for stocks that can provide income through dividends. Retirees want healthy payouts now and consistent dividend growth over time -- as long as it doesn't jeopardize the company's financial health.

With those factors in mind, let's take a closer look at Canadian National Railway.

Factor

What We Want to See

Actual

Pass or Fail?

Size Market cap > $10 billion $35.0 billion Pass
Consistency Revenue growth > 0% in at least four of five past years 4 years Pass
  Free cash flow growth > 0% in at least four of past five years 2 years Fail
Stock stability Beta < 0.9 0.46 Pass
  Worst loss in past five years no greater than 20% (21.4%) Fail
Valuation Normalized P/E < 18 20.24 Fail
Dividends Current yield > 2% 1.6% Fail
  5-year dividend growth > 10% 15.2% Pass
  Streak of dividend increases >= 10 years 15 years Pass
  Payout ratio < 75% 23.9% Pass
       
  Total score   6 out of 10

Source: S&P Capital IQ. Total score = number of passes.

With six points, Canadian National Railway does a pretty good job of giving conservative investors what they want from their stocks. The railroad stood up fairly well during the market's meltdown three years ago, but it hasn't grown as quickly as some of its peers, raising questions about its competitiveness in a tough industry.

Canadian National benefits from its presence in resource-rich Canada. The railroad has access to a wide variety of transportable products, including oil, fertilizers, coal, forest and agricultural products, along with finished goods like automobiles. Moreover, unlike rival Canadian Pacific (NYS: CP) , Canadian National has managed to post decent earnings growth both last year and over the longer term.

The problem, though, is that the growth rates on Canadian railroads have lagged behind their U.S. counterparts. Union Pacific (NYS: UNP) has managed to grow its income at a 17% clip over the past five years, compared to Canadian National's 3.3%. And both CSX (NYS: CSX) and Norfolk Southern (NYS: NSC) have left Canadian National in the dust over the past year, with growth rates of 25% and 31% respectively. Moreover, all three major U.S. railroads have much healthier dividend yields than Canadian National.

For retirees and other conservative investors, Canadian National has provided consistently strong dividend growth since its IPO in the mid-1990s. But ideally, the stock should boost its dividend yield to provide the same opportunities that American railroads offer. Until past strength in the commodities markets reestablishes itself, investors might well be better served sticking with U.S. railroad stocks.

Keep searching
Finding exactly the right stock to retire with is a tough task, but it's not impossible. Searching for the best candidates will help improve your investing skills, and teach you how to separate the right stocks from the risky ones.

Add Canadian National Railway to My Watchlist , which will aggregate our Foolish analysis on it and all your other stocks.

If you want to retire rich, you need to be confident that you've got the basics of your investment strategy down pat. See if you're on track by following the " 13 Steps to Investing Foolishly ."

At the time this article was published Fool contributor Dan Caplinger doesn't own shares of the companies mentioned in this article. Motley Fool newsletter services have recommended buying shares of Canadian National Railway. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Fool has a disclosure policy.

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rgorman137

Interesting analysis but.....

CNI has doubled it's stock price in the last 3 years. So has UP but CSX and Norfork Southern have not even come close.

So what does the market see that Dan Caplinger does not? Perhaps it is the potential for future growth? Perhaps it is CNI's shrewd investment in a small railroad that allows them to skirt Chicago? Or the innovation of the scheduled freight train? Oh yes, that brings me to the last point, CNI system is not just in Canada, but has rights and rails down to the Gulf of Mexico. And while the map of the lines does look like a T, I don't think it is for trouble.

January 03 2012 at 11:25 AM Report abuse rate up rate down Reply