Canadian National Railway Company Annual Report 2014

Plain-text annual report

BUILDING FOR THE FUTURE FUTURE 2 0 1 4 A N N U A L R E P O R T 935 de La Gauchetière Street West Montreal, Quebec H3B 2M9 www.cn.ca 2 0 1 4 A N N U A L R E P O R T Contents 1 A message from the Chairman 2 A message from Claude Mongeau 4 Building for the future: With network capacity With the next generation Through innovation With safety as a priority 8 Expanding our network 10 Board of Directors 11 Financial Section (U.S. GAAP) 96 Corporate Governance – Delivering Responsibly 97 Shareholder and Investor Information Except where otherwise indicated, all ﬁnancial information reﬂected in this document is expressed in Canadian dollars and determined on the basis of United States gener- ally accepted accounting principles (U.S. GAAP). Certain information included in this annual report constitutes “forward-looking statements” within the meaning of the United States Private Securities Litigation Reform Act of 1995 and under Canadian securities laws. CN cautions that, by their nature, these forward-looking statements involve risks, uncertainties and assumptions. The Company cautions that its assumptions may not materialize and that current economic conditions render such assumptions, although reasonable at the time they were made, subject to greater uncertainty. Such forward-looking statements are not guarantees of future performance and involve known and unknown risks, uncertainties and other factors which may cause the actual results or performance of the Company or the rail industry to be materially different from the outlook or any future results or performance implied by such statements. Important risk factors that could affect the forward-looking statements include, but are not limited to, the effects of general economic and business conditions, industry competition, inﬂation, currency and interest rate ﬂuctuations, changes in fuel prices, legislative and/or regulatory developments, compliance with environmental laws and regulations, actions by regulators, various events which could disrupt operations, including natural events such as severe weather, droughts, ﬂoods and earthquakes, labor negotiations and disruptions, environmental claims, uncertainties of investigations, proceedings or other types of claims and litigation, risks and liabilities arising from derailments, and other risks detailed from time to time in reports ﬁled by CN with securities regulators in Canada and the United States. Reference should be made to “Manage- ment’s Discussion and Analysis” in CN’s annual and interim reports, Annual Information Form and Form 40-F ﬁled with Canadian and U.S. securities regulators, available on CN’s website (www.cn.ca), for a summary of major risks. CN assumes no obligation to update or revise forward-looking statements to reﬂect future events, changes in circum- stances, or changes in beliefs, unless required by applicable Canadian securities laws. In the event CN does update any forward-looking statement, no inference should be made that CN will make additional updates with respect to that state- ment, related matters, or any other forward-looking statement. As used herein, the word “Company” or “CN” means, as the context requires, Canadian National Railway Company and/ or its subsidiaries. Shareholder and Investor Information Annual meeting The annual meeting of shareholders will be held at 8:30 a.m. CDT on April 21, 2015 at: The Peabody Memphis Venetian Room 149 Union Avenue Memphis, Tennessee, US Annual information form The annual information form may be obtained by writing to: The Corporate Secretary Canadian National Railway Company 935 de La Gauchetière Street West Montreal, Quebec H3B 2M9 It is also available on CN’s website. Transfer agent and registrar Computershare Trust Company of Canada Ofﬁces in: Montreal, Quebec; Toronto, Ontario; Calgary, Alberta; Vancouver, British Columbia Telephone: 1-800-564-6253 www.investorcentre.com Co-transfer agent and co-registrar Computershare Trust Company N.A. Att: Stock Transfer Department Overnight Mail Delivery: 250 Royall Street, Canton MA 02021 Regular Mail Delivery: P.O. Box 43078, Providence, RI 02940-3078 Telephone: 1-800-962-4284 Shareholder services Shareholders having inquiries concerning their shares, wishing to obtain information about CN, or to receive dividends by direct deposit or in U.S. dollars may obtain detailed information by communicating with: Computershare Trust Company of Canada Shareholder Services 100 University Avenue, 8th Floor Toronto, Ontario M5J 2Y1 Telephone: 1-800-564-6253 www.investorcentre.com Stock exchanges CN common shares are listed on the Toronto and New York stock exchanges. Ticker symbols: CNR (Toronto Stock Exchange) CNI (New York Stock Exchange) Investor relations Janet Drysdale Vice-President, Investor Relations Telephone: 514-399-0052 Head ofﬁce Canadian National Railway Company 935 de La Gauchetière Street West Montreal, Quebec H3B 2M9 P.O. Box 8100 Montreal, Quebec H3C 3N4 Additional copies of this report are available from: CN Public Affairs 935 de La Gauchetière Street West Montreal, Quebec H3B 2M9 Telephone: 1-888-888-5909 Email: contact@cn.ca La version française du présent rapport est disponible à l’adresse suivante : Affaires publiques du CN 935, rue de La Gauchetière Ouest Montréal (Québec) H3B 2M9 Téléphone : 1-888-888-5909 Courriel : contact@cn.ca Canadian National Railway Company 2014 Annual Report 97 This report has been printed on 100% post-consumer paper. A message from the Chairman Dear fellow shareholders 2014 was a year of considerable change and tremendous achievement at CN. We experienced a noteworthy transition at our Annual General Meeting of shareholders last April, as we bid farewell to David McLean, who retired as the Chairman of CN’s Board of Directors, and to retiring Directors Michael Armellino and Hugh Bolton, all of whom made signiﬁcant contributions to the Board’s deliberations and the Company’s success over the last 20 years. At that meeting, we welcomed three new Directors – Kevin Lynch, the Vice Chair of BMO Financial Group; Robert Phillips, President of R.L. Phillips Investments Inc. and Chairman of Precision Drilling Inc.; and Laura Stein, Senior Vice President and General Counsel of the Clorox Company – who are bringing their perspectives and keen insights to the Board. We onboarded our new Directors with the same philosophy that CN onboards new employees, instilling a sense of what the Company stands for, such as the importance of stakeholder engagement and how seriously we take safety. Like true CN railroaders, this helped prepare them to contribute their talents as quickly as possible. It has been a remarkable 20 years for CN during which I have been privileged to serve as a CN Director. A transformational journey has led CN to become the best railway in North America. CN has continuously strived to deliver responsibly, with an unwavering commitment to safety and, at the same time, strong sustainability practices. It has also adhered to the highest standards of corporate governance, including a new policy adopted by the Board to the effect that tenure of our Board and Committee Chairs will be subject to term limits. CN is a true backbone of the North American economy, and the Company’s excep- tional ﬁnancial performance in 2014 under challenging conditions is evidence of its strong strategic agenda, solid execution capabilities, and great management team. As we look ahead to 2015, the 20th anniversary of CN’s privatization, I want to thank our shareholders for the support you have shown for CN. The Board and CN’s outstanding team of railroaders are focused on building for the future so that CN will continue to provide the service our customers need and to deliver shareholder value for many years to come. Sincerely, Robert Pace, D.COMM. Chairman of the Board Canadian National Railway Company 2014 Annual Report 1 A message from Claude Mongeau BUILDING FOR THE FUTURE Dear fellow shareholders The year 2014 was an eventful one for CN, and we enter 2015 looking forward to celebrating the 20th anniversary of the Company’s initial public offering of shares later this year. Our journey since privatization in 1995 has been truly transformational. Building on our commitment to Operational and Service Excellence, supply chain enabling and continuous innovation, we are focused on creating the CN of the future. We are determined to strengthen CN’s role as a true backbone of the economy, with continued investments in our capacity and our people. CN’s strong team of railroaders contributed to outstanding ﬁnancial and operational results in 2014 amid signiﬁcant challenges. Chief among them were the winter of a lifetime that produced a stretch of record-breaking cold snaps, and a 100-year grain crop in Canada. In spite of these obstacles, our full-year 2014 adjusted diluted earnings per share increased 23 per cent, with reported 2014 net income of $3,167 million versus $2,612 million in 2013. CN retained its industry-leading productivity performance, grew its business faster than the overall economy, and did so at low incremental cost. CN has made huge strides since its 1995 initial public share offering. Once an industry laggard and largely a Canada-only enterprise, CN today leads the North American rail industry in terms of efﬁciency and operating margins. We span eight Canadian provinces as well as 16 U.S. states, transporting freight trafﬁc seamlessly over a 19,600 mile network that reﬂects more than $8 billion of acquisitions since 1998. CN has taken the lead in developing new ﬁrst-mile/last-mile services for merchandise freight, and scheduled services for bulk commodities. We have entered into innovative supply chain collaboration agreements with the key ports we serve, many of their terminal operators, as well as with several of our customers. All this is helping position ourselves as a true supply chain enabler. “Our journey since privatization in 1995 has been truly transformational.” We will celebrate the 20th anniversary of CN’s IPO in November 2015. This anniversary will allow us to take stock of what we have achieved in the last 20 years. It will also be an opportunity to re- assert what we stand for and our commitment to create value for customers and shareholders. That commitment requires us to continue investing in capacity ahead of the curve to support our 2 2014 Annual Report Canadian National Railway Company growth agenda, and renewing our workforce with the same attention and focus we’ve demonstrated since 2010. We will also have to maintain the same innovative mindset that has led to the development of new tools to communicate with customers, and the same outreach mindset that is behind a comprehensive and structured community engagement program to share information about our safety practices across our network. “We believe that a commercial framework and a stable regulatory environment are essential for an effective, well- functioning rail transportation marketplace.” After 20 years of delivering value with a clear vision and strong commitment to ﬂawless execution, CN’s plans for the future require supportive government policy and a stable regulatory environment. It was the momentum towards de-regulation of the rail industry – ﬁrst in the United States in 1980 and later in Canada in 1987 and 1996 – that was the turning point that allowed CN and the overall rail industry to embark on a strong revival. Unfortunately, in 2014 the Canadian government took a step backward on the regulatory front, imposing minimum grain volume requirements on the two main railways, extending interswitching limits in three Western provinces, and re-enforcing a ﬁnger-pointing mentality that undermines collaboration. In the face of a historic grain crop and a brutal winter, none of this government action was warranted. Once the cold abated, CN, as it promised, bounced back, posting a record performance in the 2013-2014 crop-year – our movement of Western Canadian grain was a full 25 per cent greater than past averages. CN continued its record-setting grain transportation volume into the new crop-year with the grain supply chain fully in sync, while continuing to move record volumes of trafﬁc overall. We believe that a commercial framework and a stable regulatory environment are essential for an effective, well-functioning rail transportation marketplace. Burdensome regulation threatens to increase costs, stiﬂe innovation and potentially discourage investments that are critical to building the strong, safe and resilient supply chains of the future. We are proud of our record in the near 20 years since privatization in 1995. We will continue to work hard to convince governments to create the proper regulatory environment that will justify and encourage our investments in the business for the next 20 years. We will strive to convince all our customers that a commercially driven policy framework is best for them as well. In short, we are building for the future with conﬁdence to deliver value for our customers and shareholders. Claude Mongeau President and CEO Canadian National Railway Company 2014 Annual Report 3 BUILDING FOR THE FUTURE WITH NETWORK CAPACITY Building more robust network capacity partners. These advantages drive Given expectations of continued solid network ﬂuidity and greatly help freight volumes in the years ahead, CN recover from weather-related CN is investing signiﬁcantly to build operational challenges such as those for the future, increasing network experienced last winter. In addition, capacity, resilience and ﬂuidity across CN’s use of the EJ&E frees up capacity its network, including its Edmonton– for other carriers on the Belt Railway Winnipeg and Winnipeg–Chicago cor- of Chicago (BRC) and Indiana Harbor ri dors. Belt (IHB) – a clear beneﬁt for the entire In 2014, CN committed more Greater Chicago rail network. than C$100 million to improve yards By the end of 2014, CN had and install sections of double track, spent more than US$125 million crossovers and high-speed switches on infrastructure improvements to on main lines in the two corridors. That the former EJ&E network, such as followed a C$100-million program in improved connections, track exten- 2013 to increase capacity on CN’s sions and signalling. CN has also main line between Edmonton and invested more than US$100 million for Winnipeg and the parallel secondary upgrades to improve the capacity and Prairie North Line (PNL). The PNL can efﬁciency of the former EJ&E’s Kirk also serve as a “relief valve” for the Yard in Gary, Ind., now CN’s principal main corridor, providing ﬂexibility and rail car classiﬁcation and interchange resilience to the network. yard in the Chicago area. CN has invested in the former Elgin, In addition, CN has spent roughly Joliet and Eastern (EJ&E) network that US$80 million to date on environmen- encircles Chicago. The acquisition of tal and safety mitigation, as well as the EJ&E in 2009 allowed CN – for ful ﬁlling CN’s commitment in the the ﬁrst time – to link its ﬁve rail lines Voluntary Mitigation Agreements CN entering Chicago from all directions reached with 28 EJ&E communities. CN into one seamless system. The EJ&E will spend approximately US$45 million enables CN to avoid congested inner more in 2015-2016 to complete two city rail corridors in connecting with grade separations in Illinois mandated its lines and principal interchange by the Surface Transportation Board. 4 2014 Annual Report Canadian National Railway Company WITH THE NEXT GENERATION CN Campus, Winnipeg CN Campus, Homewood Building the next generation of Winnipeg centre hosts an average CN railroaders of 350 students a week from across CN is devoting signiﬁcant resources Canada, while the facility in suburban to onboarding and training a new Chicago accommodates an average generation of CN railroaders across of 250 students from across the U.S. its network. The training centres assure con- The imperative for the investment sis tent, quality training with a is clear – since 2010 CN has hired modernized curriculum, coupled with 14,000 people to replace retiring skilled instructors, offering courses or departing employees and to for jobs ranging from conductor to accommodate the growth in freight car mechanic, from track supervisor trafﬁc. In 2014 alone, CN onboarded to signal maintainer. Employees more than 3,900 new employees. receive hands-on training in indoor The seismic shift in CN’s workforce learning laboratories with equipment is evidenced by the fact that such as locomotive simulators and Generation Y – people in their 20s dispatcher stations. Outdoor labs and 30s – now accounts for 40 per with dedicated rolling stock and cent of the Company’s workforce, other equipment for ﬁeld training are the largest overall segment of the also a key focus. employee population. Employees learn about the valu- As workforce renewal proceeded, able role peer-to-peer com mun i- CN recognized the need to insti tute cations, coaching, and mentoring new, comprehensive onboarding play in safe railroading. Experienced and training programs focused on Peer Conductor Trainers help ensure instilling a strong safety culture in safe environments for student con- new employees and reinforcing it ductors, evaluating and guiding them among current employees who are during their progress toward full learning new skills or upgrading conductor qualiﬁcation. Workforce existing ones. To advance that renewal is a critical element in CN’s objective, CN opened new training objective to hire, retain and develop centres in Winnipeg, Man., and the talented railroaders who will Homewood, Ill., in 2014, built at a maintain the Company’s leadership cost of approximately $55 million. The role in the industry. Canadian National Railway Company 2014 Annual Report 5 BUILDING FOR THE FUTURE THROUGH INNOVATION Building trust with customers through Under CN’s iAdvise program, oper- an innovative tool – iAdvise ating employees send Local Service Innovation has been at the centre of Notiﬁcations to customers. These mes- CN’s business agenda for years. From sages are automatically sent when the an initial focus on asset utilization Daily Operating Plan is committed to driven by the Precision Railroading notify customers of work to be done – business model, CN has shifted its before the switching assignment leaves attention to balancing Operational the clas siﬁ cation yard. and Service Excellence. Through a In addition to receiving this notiﬁ- portfolio of initiatives called Customer ca tion, customers also have access to FIRST, CN is innovating to address CN’s new ﬁrst-mile/last-mile report on key customer pinch points, including eBusiness which includes CN’s new the ﬁrst mile and last mile of the Delivery Date commitment. shipment cycle. iAdvise, the latest Together these tools provide CN initiative in CN’s ﬁrst-mile/last-mile customers with more visibility of trafﬁc strategy to communicate better with moving toward the destination yard customers, built critical mass in 2014 along with the status of the cars at the when the program was rolled out for yard and at their facilities. This increased CN’s largest customers, with smaller visibility and accuracy – the customer, customers also coming on stream. CN Service Delivery Representatives, iAdvise began with notifying Account Managers and Trainmasters custo mers about service exceptions all share common information – helps in a timelier manner to help them customers better plan their operations. adjust their work plans. It has now CN believes timely, accurate evolved into an innovative set of tools information is key to building custo- and processes to further improve the mers’ conﬁdence. iAdvise has the way CN works and communicates potential to build their trust and with them. elevate CN ahead of the competition. FIRST MILE ON TO CN TRAIN LAST MILE INBOUND OUTBOUND 6 2014 Annual Report Canadian National Railway Company WITH SAFETY AS A PRIORITY Building safety into all we do environmentally sensitive areas, and rail- CN has an unwavering commitment way operating practices. to safety. Whether moving dangerous CN supports regulations requiring the goods or any other freight on its net- retroﬁtting or phase-out of older model work, CN knows that safe operations DOT-111 tank cars used to transport ﬂam- are the ﬁrst priority and are critical to mable liquids, and a reinforced stan dard all stake holders: employees, customers for new tank cars built in the future. On and the communities through which its its own initiative, CN took steps in 2014 trains travel. to structure freight rates that offer its Although CN was not involved with customers an incentive to acquire more the Lac -Mégantic accident in 2013, robust tank cars for the transportation following the tragedy, we took addi tional of crude oil that meet higher safety steps to further reduce the potential for standards. CN also announced a program and impact of accidents on our net- to replace its own small ﬂeet of legacy work. CN’s approach to safety reﬂects DOT-111 tank cars used to transport diesel a three-pronged strategy focusing on locomotive fuel on its network. safety enhancements, the replacement CN believes that the rail industry can of older model DOT-111 tank cars, and enhance safety by working more closely a structured community engagement with communities. Toward that end, program. Our drive to enhance safety CN has been reaching out to muni cipal has several components, including cap- ofﬁcials and their emergency responders ital spending on our ﬂaw detection along its North American rail network capa bilities to ensure a high-quality to review its comprehensive safety plant across the network. In addition, programs, to share in conﬁdence relevant we have strengthened our robust train information on dangerous goods trafﬁc, securement practices and restricted and to discuss emergency response the speeds of trains hauling highly- planning and training. CN arranges to ﬂammable liquids. We have conducted conduct training sessions for emergency corridor risk assessments, under which a responders when requested. The multifunctional team evaluated the risks Company’s outreach program in v olves associated with CN’s transportation of almost 1,100 communities in Canada dangerous goods on key route corridors, and approximately 870 com munities and with a view towards rail line proximity counties in the U.S., and supplements to urban populations and infra structure, governmental and regulatory direction. Canadian National Railway Company 2014 Annual Report 7 BUILDING FOR THE FUTURE EXPANDING OUR NETWORK Capital expenditures 2010-2014 % of total (including capital leases) Capital expenditures 1,718M 2010 2011 1,712M 2012 1,825M 2013 2,017M 2014 2,297M % of total Track and roadway Rolling stock Information technology Other 60 24 7 9 69 11 8 12 74 11 7 8 69 14 7 10 70 14 6 10 8 2014 Annual Report Canadian National Railway Company CN IC 1998 WC 2001 BC Rail 2004 GLT 2004 EJ&E 2009 Canadian National Railway Company 2014 Annual Report 9 Committees: 1 Audit 2 Finance 3 Corporate governance and nominating 4 Donations and sponsorships 5 Environment, safety and security 6 Human resources and compensation 7 Strategic planning 8 Investment committee of CN’s Pension Trust Funds * denotes chair of the committee Board of Directors As at December 31, 2014 Robert Pace, D.Comm. Chairman of the Board Canadian National Railway Company President and Chief Executive Officer The Pace Group Committees: 3, 4, 5, 6, 7 Claude Mongeau President and Chief Executive Officer Canadian National Railway Company Committees: 4*, 7 A. Charles Baillie, O.C., LL.D. Former Chairman and CEO The Toronto-Dominion Bank Committees: 2*, 6, 7, 8 Donald J. Carty, O.C., LL.D. Retired Vice-Chairman and Chief Financial Officer Dell, Inc. Committees: 1*, 3, 5, 6, 7 Ambassador Gordon D. Giffin Senior Partner McKenna, Long & Aldridge Committees: 1, 4, 6*, 7, 8 Edith E. Holiday Corporate Director and Trustee, Former General Counsel, United States Treasury Department and Secretary of the Cabinet The White House Committees: 2, 3, 6, 7, 8 V. Maureen Kempston Darkes, O.C., D.Comm., LL.D. Retired Group Vice-President General Motors Corporation and President GM Latin America, Africa and Middle East Committees: 2, 3, 5*, 6, 7 The Honourable Denis Losier, P.C., LL.D., C.M. Retired President and Chief Executive Officer Assumption Life Committees: 1, 3*, 6, 7, 8 The Honourable Edward C. Lumley, P.C., LL.D. Vice-Chairman BMO Capital Markets Committees: 2, 6, 7, 8* The Honourable Kevin G. Lynch, P.C., O.C., PH.D., LL.D. Vice-Chair BMO Financial Group Committees: 2, 3, 5, 6, 7 James E. O’Connor Former Chairman and CEO Republic Services, Inc. Committees: 1, 2, 5, 6, 7* Robert L. Phillips President R.L. Phillips Investments Inc. Committees: 1, 3, 5, 6, 7 Laura Stein Senior Vice-President, General Counsel The Clorox Company Committees: 1, 2, 5, 6, 7 Chairman of the Board and Select Senior Officers of the Company As at December 31, 2014 Robert Pace Chairman of the Board Claude Mongeau President and Chief Executive Officer John Orr Vice-President Eastern Region Russell J. Hiscock President and Chief Executive Officer CN Investment Division Sean Finn Executive Vice-President Corporate Services and Chief Legal Officer Luc Jobin Executive Vice-President and Chief Financial Officer Jean-Jacques Ruest Executive Vice-President and Chief Marketing Officer Jim Vena Executive Vice-President and Chief Operating Officer Mike Cory Senior Vice-President Western Region Jeff Liepelt Senior Vice-President Southern Region Janet Drysdale Vice-President Investor Relations Kimberly A. Madigan Vice-President Human Resources 10 2014 Annual Report Canadian National Railway Company Financial Section (U.S. GAAP) Contents 12 Selected Railroad Statistics – unaudited Management’s Discussion and Analysis 13 Business proﬁle 13 Corporate organization 13 Strategy overview 16 Forward-looking statements 16 Financial outlook 17 Financial highlights 18 Adjusted performance measures 19 Revenues 23 Operating expenses 24 Other income and expenses 24 2013 compared to 2012 28 Summary of quarterly ﬁnancial data 28 Summary of fourth quarter 2014 29 Financial position 30 Liquidity and capital resources 35 Off balance sheet arrangements 35 Financial instruments 37 Outstanding share data 37 Critical accounting estimates 45 Business risks 55 Controls and procedures Consolidated Financial Statements 56 Management’s Report on Internal Control over Financial Reporting 56 Report of Independent Registered Public Accounting Firm 57 Report of Independent Registered Public Accounting Firm 58 Consolidated Statement of Income 59 Consolidated Statement of Comprehensive Income 60 Consolidated Balance Sheet 61 Consolidated Statement of Changes in Shareholders’ Equity 62 Consolidated Statement of Cash Flows Notes to Consolidated Financial Statements 63 1 Summary of signiﬁcant accounting policies 66 2 Recent accounting pronouncement 67 3 Other income 68 4 Income taxes 69 5 Earnings per share 69 6 Accounts receivable 70 7 Properties 70 8 Intangible and other assets 70 9 Accounts payable and other 71 10 Long-term debt 73 11 Other liabilities and deferred credits 73 12 Pensions and other postretirement beneﬁts 80 13 Share capital 82 14 Stock plans 89 15 Accumulated other comprehensive loss 90 16 Major commitments and contingencies 94 17 Financial instruments 95 18 Segmented information Canadian National Railway Company 2014 Annual Report 11 Selected Railroad Statistics – unaudited Financial measures Key ﬁnancial performance indicators Total revenues ($ millions) Rail freight revenues ($ millions) (1) Operating income ($ millions) Adjusted diluted earnings per share ($) (2) Free cash ﬂow ($ millions) (3) Gross property additions ($ millions) Share repurchases ($ millions) Dividends per share ($) Financial position Total assets ($ millions) Total liabilities ($ millions) Shareholders’ equity ($ millions) Financial ratios Operating ratio (%) Adjusted debt-to-total capitalization ratio (%) (4) Adjusted debt-to-adjusted EBITDA (times) (4) Operational measures (5) Statistical operating data Gross ton miles (GTM) (millions) Revenue ton miles (RTM) (millions) Carloads (thousands) Route miles (includes Canada and the U.S.) Employees (end of year) Employees (average for the year) Key operating measures Rail freight revenue per RTM (cents) (1) Rail freight revenue per carload ($) (1) GTMs per average number of employees (thousands) Operating expenses per GTM (cents) Labor and fringe beneﬁts expense per GTM (cents) Diesel fuel consumed (US gallons in millions) Average fuel price ($ per US gallon) GTMs per US gallon of fuel consumed Terminal dwell (hours) Train velocity (miles per hour) Safety indicators Injury frequency rate (per 200,000 person hours) (6) Accident rate (per million train miles) (6) 2014 2013 2012 12,134 10,575 9,920 11,455 9,951 9,306 4,624 3,873 3,685 3.76 3.06 2.81 2,220 1,623 1,661 2,297 2,017 1,825 1,505 1,400 1,400 1.00 0.86 0.75 31,792 30,163 26,659 18,322 17,210 15,641 13,470 12,953 11,018 61.9 40.1 1.58 63.4 39.4 1.72 62.9 40.4 1.61 448,765 401,390 383,754 232,138 210,133 201,496 5,625 5,190 5,059 19,600 20,000 20,100 25,530 23,721 23,430 24,635 23,705 23,466 4.93 4.74 4.62 2,036 1,917 1,839 18,217 16,933 16,354 1.67 0.52 1.67 0.54 1.62 0.51 440.5 403.7 388.7 3.72 1,019 16.9 25.7 1.81 2.73 3.55 994 15.8 26.6 1.69 2.11 3.47 987 15.6 27.2 1.42 2.10 (1) In 2014, certain Other revenues were reclassiﬁed to the commodity groups within rail freight revenues. This change has no impact on the Company’s previously reported results of operations as Total revenues remain unchanged. The 2013 and 2012 comparative ﬁgures have been reclassiﬁed in order to be consistent with the 2014 presentation. (2) See the section entitled Adjusted performance measures in the MD&A for an explanation of this non-GAAP measure. (3) See the section entitled Liquidity and capital resources – Free cash ﬂow in the MD&A for an explanation of this non-GAAP measure. (4) See the section entitled Liquidity and capital resources – Credit measures in the MD&A for an explanation of this non-GAAP measure. (5) Statistical operating data, key operating measures and safety indicators are unaudited and based on estimated data available at such time and are subject to change as more complete information becomes available, as such, certain of the comparative data have been restated. Deﬁnitions of these indicators are provided on our website, www.cn.ca/glossary. (6) Based on Federal Railroad Administration (FRA) reporting criteria. 12 2014 Annual Report U.S. GAAP Canadian National Railway Company Management’s Discussion and Analysis Management’s discussion and analysis (MD&A) relates to the ﬁnancial position and results of operations of Canadian National Railway Company, together with its wholly-owned subsidiaries, collectively “CN” or “the Company.” Canadian National Railway Company’s common shares are listed on the Toronto and New York stock exchanges. Except where otherwise indicated, all ﬁnancial information reﬂected herein is expressed in Canadian dollars and determined on the basis of United States generally accepted accounting principles (U.S. GAAP). The Company’s objective is to provide meaningful and relevant information reﬂecting the Company’s ﬁnancial position and results of operations. In certain instances, the Company may make reference to certain non-GAAP measures that, from management’s perspective, are useful measures of performance. The reader is advised to read all information provided in the MD&A in conjunction with the Company’s 2014 Annual Consolidated Financial Statements and Notes thereto. Business proﬁle Strategy overview CN is engaged in the rail and related transportation business. CN’s business strategy is anchored on the continuous pursuit of CN’s network of approximately 20,000 route miles of track spans Operational and Service Excellence, an unwavering commitment Canada and mid-America, uniquely connecting three coasts: to safety and sustainability, and the development of a solid team the Atlantic, the Paciﬁc and the Gulf of Mexico. CN’s extensive network and efﬁcient connections to all Class I railroads provide CN customers access to all three North American Free Trade of motivated and competent railroaders. CN’s goal is to deliver valuable transportation services for its customers and to grow the business at low incremental cost. CN thereby creates value Agreement (NAFTA) nations. A true backbone of the economy, for its shareholders by striving for sustainable ﬁnancial perform- CN handles over $250 billion worth of goods annually and carries ance through proﬁtable top-line growth, adequate free cash ﬂow more than 300 million tons of cargo, serving exporters, importers, and return on invested capital. CN is also focused on returning retailers, farmers and manufacturers. value to shareholders through dividend payments and share re- CN’s freight revenues are derived from seven commodity purchase programs. With a clear strategic agenda, driven by a groups representing a diversiﬁed and balanced portfolio of goods commitment to innovation, productivity, supply-chain collabor- transported between a wide range of origins and destinations. This ation, and running trains safely while minimizing environmental product and geographic diversity better positions the Company to impact, CN aims to create value for its customers as well as its face economic ﬂuctuations and enhances its potential for growth shareholders. opportunities. In 2014, no individual commodity group accounted CN’s success is dependent on long-term economic viability for more than 23% of total revenues. From a geographic stand- and on the presence of a supportive regulatory and policy en- point, 17% of revenues relate to United States (U.S.) domestic vironment that drives investment and innovation. CN’s success trafﬁc, 33% transborder trafﬁc, 19% Canadian domestic trafﬁc also depends on a stream of capital investments that supports its and 31% overseas trafﬁc. The Company is the originating carrier business strategy. These investments cover a wide range of areas, for approximately 85% of trafﬁc moving along its network, which from track infrastructure and rolling stock, to information tech- allows it both to capitalize on service advantages and build on nology and other equipment and assets that improve the safety, opportunities to efﬁciently use assets. Corporate organization efﬁciency and reliability of CN’s service offering. Investments in track infrastructure enhance the productivity and integrity of the plant, and increase the capacity and the ﬂuidity of the network, The Company manages its rail operations in Canada and the U.S. including track upgrades to accommodate higher volumes and as one business segment. Financial information reported at this long sidings that allow for longer trains. The acquisition of new level, such as revenues, operating income and cash ﬂow from locomotives and cars generate several key beneﬁts. New motive operations, is used by the Company’s corporate management in power increases fuel productivity and efﬁciency, and improves evaluating ﬁnancial and operational performance and allocating the reliability of service. Units equipped with distributed power resources across CN’s network. The Company’s strategic initiatives allow for greater productivity of trains, particularly in cold weath- are developed and managed centrally by corporate management er, while improving train handling and safety. Targeted car ac- and are communicated to its regional activity centers (the Western quisitions aim to tap growth opportunities, complementing the Region, Eastern Region and Southern Region), whose role is to ﬂeet of privately owned railcars that traverse CN’s network. CN’s manage the day-to-day service requirements of their respective strategic investments in information technology provide access territories, control direct costs incurred locally, and execute the to timely and accurate information which supports CN’s ongoing strategy and operating plan established by corporate management. efforts to drive innovation and efﬁciency in service, cost control, See Note 18 – Segmented information to the Company’s 2014 asset utilization, safety and employee engagement. Annual Consolidated Financial Statements for additional informa- tion on the Company’s corporate organization, as well as selected ﬁnancial information by geographic area. Canadian National Railway Company U.S. GAAP 2014 Annual Report 13 Management’s Discussion and Analysis Balancing “Operational and Service Excellence” sharper outside-in perspective; better monitoring of trafﬁc fore- The basic driver of the Company’s business is demand for reli- casts; higher and more responsive car order fulﬁllment; and pro- able, efﬁcient, and cost-effective transportation for customers. active customer communication at the local level, supported by As such, the Company’s focus is the pursuit of Operational and iAdvise, an information tool that is improving the reliability and Service Excellence: striving to operate safely and efﬁciently while consistency of shipment information. providing a high level of service to customers. CN’s broad-based service innovations beneﬁt customers and For many years, CN has operated with a mindset that drives support the Company’s goal to grow the business faster than cost efﬁciency and asset utilization. That mindset ﬂows naturally the overall economy. CN understands the importance of being from CN’s Precision Railroading model, which focuses on improv- the best operator in the business, and being the best service ing every process that affects delivery of customers’ goods. It is innovator as well. a highly disciplined process whereby CN handles individual rail shipments according to a speciﬁc trip plan and manages all as- Delivering safely and responsibly pects of railroad operations to meet customer commitments efﬁ- CN is committed to the safety of its employees, the communities ciently and proﬁtably. This calls for the relentless measurement of in which it operates and the environment. Safety consciousness results and the use of such results to generate further execution permeates every aspect of CN’s operations. The Company’s long- improvements in the service provided to customers. CN’s drive term safety improvement is driven by continued signiﬁcant in- to execute ﬂawlessly is a key factor for the Company to grow vestments in infrastructure, rigorous safety processes and a focus the top line at low incremental cost. The Company’s continuous on employee training and safety awareness. CN continues to search for efﬁciency is best captured in its performance accord- strengthen its safety culture by investing signiﬁcantly in training, ing to key operating metrics such as car velocity, train speed and coaching, recognition and employee involvement initiatives. locomotive productivity. All are at the center of a highly product- CN’s Safety Management Plan is the framework for putting ive and ﬂuid railroad operation, requiring daily engagement in safety at the center of its day-to-day operations. This proactive the ﬁeld. The Company works hard to run more efﬁcient trains, plan is designed to minimize risk, drive continuous improvement reduce dwell times at terminals and improve overall network vel- in the reduction of injuries and accidents, and engage employees ocity. With CN’s business model, fewer railcars and locomotives at all levels of the organization. CN believes that the rail industry are needed to ship the same amount of freight in a tight, reliable can enhance safety by working more closely with communities. and efﬁcient operation. The railroad is run based on a disciplined Under CN’s structured Community Engagement program, the operating methodology, executing with a sense of urgency and Company engages with municipal ofﬁcers and their emergency accountability. This philosophy is a key contributor to CN’s earn- responders in an effort to assist them in their emergency re- ings growth and return on invested capital. sponse planning. In many cases, this outreach includes face- CN understands the importance of balancing its drive for to-face meetings, during which CN discusses its comprehensive productivity with efforts to enhance customer service. The safety programs; its safety performance; the nature, volume and Company’s efforts to deliver Operational and Service Excellence economic importance of dangerous commodities it transports are anchored on an end-to-end supply chain mindset, working through their communities; a review of emergency response closely with customers and supply chain partners, as well as planning; and arranging for training sessions for emergency involving all relevant areas of the Company in the process. By responders. The outreach builds on CN’s involvement in the fostering better end-to-end service performance, encouraging all supply-chain players to move away from a silo mentality Transportation Community Awareness and Emergency Response (TRANSCAER®), through which the Company has been working to daily engagement, information sharing, problem solving, for many years to help communities in Canada and the U.S. and execution, CN aims to help customers achieve greater understand the movement of hazardous materials and what is competitiveness in their own markets. Supply Chain Collaboration required in the event of transportation incidents. Agreements with ports, terminal operators and customers CN has been deepening its commitment to a sustainable leverage key performance metrics that drive efﬁciencies across opera tion for many years, and has made sustainability an integral the entire supply chain. part of its business strategy. The best way in which CN can posi- The Company is strengthening its commitment to Operational tively impact the environment is by continuously improving the and Service Excellence through a wide range of innovations efﬁciency of its operations, and reducing its carbon footprint. As anchored on its continuous improvement philosophy. CN is part of the Company’s comprehensive sustainability action plan building on its industry leadership in terms of fast and reliable and to comply with the CN Environmental Policy, the Company hub-to-hub service by striving to improve the entire range of cus- engages in a number of initiatives, including the use of fuel- tomer touch points, including ﬁrst-mile/last-mile activities. The efﬁcient locomotives and trucks that reduce greenhouse gas Company’s major push in ﬁrst-mile/last-mile service is all about emissions; increasing operational and building efﬁciencies; in- improving the quality of customer interactions – developing a vesting in energy-efﬁcient data centers and recycling programs for 14 2014 Annual Report U.S. GAAP Canadian National Railway Company Management’s Discussion and Analysis information technology systems; reducing, recycling and reusing 2014 Highlights waste and scrap at its facilities and on its network; engaging in • The Company generated the highest volumes and earnings in its modal shift agreements that favor low emission transport services; history and CN’s growth continued to outpace that of the overall and participating in the CDP (“Carbon Disclosure Project”) to gain economy, mainly attributable to a record 2013/2014 Canadian a more comprehensive view of its carbon footprint. The Company grain crop, strong energy markets and new intermodal business. combines its expert resources, environmental management pro- • The Company repurchased 22.4 million shares during the year, cedures, training and audits for employees and contractors, and returning over $1.5 billion to its shareholders. emergency preparedness response activities to help ensure that it • The Company paid quarterly dividends of $0.2500 per share conducts its operations and activities while protecting the natural amounting to $818 million. environment. The Company’s environmental activities include • CN spent $2.3 billion in its capital program, with $1.25 billion monitoring CN’s environmental performance in Canada and the targeted at maintaining the safety and integrity of the network, U.S. (ensuring compliance), identifying environmental issues in- particularly track infrastructure; $375 million for equipment capital side the Company, and managing them in accordance with CN’s expenditures, including 60 new high-horsepower locomotives, and Environmental Policy. The Environmental Policy is overseen by $675 million on initiatives to support growth and drive productivity. the Environment, Safety and Security Committee of the Board of • The Company’s sustainability practices earned it a place as the Directors, and all employees must demonstrate commitment to leader in the Transportation and Transportation Infrastructure it at all times. Certain risk mitigation strategies, such as periodic Industry sector of the Dow Jones Sustainability World Index. audits, employee training programs and emergency plans and • CN was awarded with a position on The A List: The CDP Climate procedures, are in place to minimize the environmental risks to Performance Leadership Index 2014 for its actions to reduce car- the Company. bon emissions and mitigate the business risks of climate change. The CN Environmental Policy, the Company’s CDP Report, the • CN opened two new state-of-the-art training facilities, one lo- Corporate Citizenship Report “Delivering Responsibly” and the cated in Winnipeg, Manitoba, in April 2014, the other located in Company’s Corporate Gover nance Manual, which outlines the suburban Chicago, Illinois, in July 2014, as part of a new revital- role and responsibility of the Environment, Safety and Security ized company-wide training program. Committee of the Board of Directors, are available on CN’s website. Growth opportunities and assumptions In 2014, the Company beneﬁted from an increase in North American Building a solid team of railroaders industrial production, U.S. housing starts and U.S. automotive sales. CN’s ability to develop the best railroaders in the industry has In 2015, the Company sees opportunities for growth in energy- been a key contributor to the Company’s success. CN recognizes related commodities, particularly crude oil and frac sand; intermodal that without the right people – no matter how good a service trafﬁc; as well as commodities tied to U.S. housing construction and plan or business model a company may have – it will not be able automotive sales. The Company expects North American industrial to fully execute. The Company is addressing changes in employee production to increase in the range of three to four percent as well as demographics that will span multiple years, with the workforce continued improvements in U.S. housing starts and U.S. automotive undergoing a major renewal. This is why the Company is focused sales. The 2014/2015 Canadian grain crop represented a signiﬁcant on hiring the right people, onboarding them successfully, help- reduction toward the historical trend line while the U.S. grain crop was ing them build positive relationships with their colleagues, and above trend. The Company assumes that the 2015/2016 grain crops helping all employees to grow and develop. As part of its strat- in both Canada and the U.S. will be in line with trend yields. egy to build a solid team of railroaders, the Company invested in two new state-of-the-art training facilities in 2014, aimed at Value creation in 2015 preparing employees to be highly skilled, safety conscious and • CN plans to invest approximately $2.6 billion in its 2015 capital conﬁdent in their work environment. Curricula for technical program, of which over $1.3 billion is targeted toward track infra- training and leadership development has also been improved to structure, $500 million on equipment capital expenditures, includ- meet the learning needs of CN’s railroaders – both current and ing adding 90 new high-horsepower locomotives, and $800 mil- future. These programs and initiatives provide a solid platform lion on initiatives to support growth and drive productivity. for the assessment and development of the Company’s talent • The Company’s Board of Directors approved an increase of 25% to pool, and are tightly integrated with the Company’s business the quarterly dividend to common shareholders, from $0.2500 per strategy. Progress made in developing current and future leaders share in 2014 to $0.3125 per share in 2015. through the Company’s leadership development programs is re- • The Company’s Board of Directors approved a new share re- viewed by the Human Resources and Compensation Committee purchase program which allows for the repurchase of up to of the Board of Directors. 28.0 million common shares between October 24, 2014 and October 23, 2015. Canadian National Railway Company U.S. GAAP 2014 Annual Report 15 Management’s Discussion and Analysis The forward-looking statements discussed in this MD&A are events, developments, prospects and opportunities that may not subject to risks and uncertainties that could cause actual results materialize or that may be offset entirely or partially by other or performance to differ materially from those expressed or im- events and developments. See the sections of this MD&A entitled plied in such statements and are based on certain factors and Forward-looking statements and Strategy overview – Growth assumptions which the Company considers reasonable, about opportunities and assumptions for assumptions and risk factors. Forward-looking statements Certain information included in this MD&A are “forward-looking statements” within the meaning of the United States Private Securities Litigation Reform Act of 1995 and under Canadian securities laws. CN cautions that, by their nature, forward-looking statements involve risks, uncertainties and assumptions. The Company cautions that its assumptions may not materialize and that current economic conditions render such assumptions, although reasonable at the time they were made, subject to greater uncertainty. These forward-looking statements include, but are not limited to, statements with respect to growth opportunities; statements that the Company will beneﬁt from growth in North American and global economies; the anticipation that cash ﬂow from operations and from various sources of ﬁnancing will be sufﬁcient to meet debt repayments and future obligations in the foreseeable future; statements regarding future payments, including income taxes and pension contributions; as well as the projected capital spending program. Forward-looking statements could further be identiﬁed by the use of terminology such as the Company “believes,” “expects,” “anticipates,” “assumes” or other similar words. Such forward-looking statements are not guarantees of future performance and involve known and unknown risks, uncertainties and other factors which may cause the actual results or performance of the Company or the rail industry to be materially different from the outlook or any future results or performance implied by such statements. Key assumptions used in determining forward-looking information are set forth below. See also the section of this MD&A entitled Strategy overview – Growth opportunities and assumptions. Forward-looking statements Key assumptions or expectations Statements relating to general economic and • North American and global economic growth business conditions, including those referring to • Long-term growth opportunities being less affected by current economic revenue growth opportunities conditions • Year-over-year carload growth Statements relating to the Company’s ability to • North American and global economic growth meet debt repayments and future obligations in the • Adequate credit ratios foreseeable future, including income tax payments, • Investment grade credit rating and capital spending • Access to capital markets Statements relating to pension contributions • Adequate cash generated from operations and other sources of ﬁnancing • Adequate cash generated from operations and other sources of ﬁnancing • Adequate long-term return on investment on pension plan assets • Level of funding as determined by actuarial valuations, particularly inﬂuenced by discount rates for funding purposes Important risk factors that could affect the forward-looking statements include, but are not limited to, the effects of general economic and business conditions; industry competition; inﬂation, currency and interest rate ﬂuctuations; changes in fuel prices; legislative and/or regulatory developments; compliance with environmental laws and regulations; actions by regulators; various events which could disrupt operations, including natural events such as severe weather, droughts, ﬂoods and earthquakes; labor negotiations and disruptions; environ- mental claims; uncertainties of investigations, proceedings or other types of claims and litigation; risks and liabilities arising from derailments; and other risks detailed from time to time in reports ﬁled by CN with securities regulators in Canada and the U.S. See the section of this MD&A entitled Business risks for detailed information on major risk factors. CN assumes no obligation to update or revise forward-looking statements to reﬂect future events, changes in circumstances, or changes in beliefs, unless required by applicable Canadian securities laws. In the event CN does update any forward-looking statement, no inference should be made that CN will make additional updates with respect to that statement, related matters, or any other forward-looking statement. Financial outlook During the year, the Company issued and updated its 2014 ﬁnancial outlook. The 2014 actual results were in line with the Company’s last 2014 ﬁnancial outlook that was issued on October 21, 2014. 16 2014 Annual Report U.S. GAAP Canadian National Railway Company Management’s Discussion and Analysis Financial highlights In millions, except percentage and per share data 2014 2013 2012 2014 vs 2013 2013 vs 2012 Change Favorable/(Unfavorable) Revenues Operating income Net income Adjusted net income (1) Basic earnings per share Adjusted basic earnings per share (1) Diluted earnings per share Adjusted diluted earnings per share (1) $ 12,134 $ 10,575 $ 9,920 $ 4,624 $ 3,873 $ 3,685 $ 3,167 $ 2,612 $ 2,680 $ 3,095 $ 2,582 $ 2,456 $ $ $ $ 3.86 3.77 3.85 3.76 $ $ $ $ 3.10 3.07 3.09 3.06 $ $ $ $ 3.08 2.82 3.06 2.81 Dividends declared per share $ 1.00 $ 0.86 $ 0.75 15% 19% 21% 20% 25% 23% 25% 23% 16% 5% (10%) 7% 5% (3%) 5% 1% 9% 1% 9% 15% 13% (9%) Total assets Total long-term liabilities Operating ratio Free cash ﬂow (2) $ 31,792 $ 30,163 $ 26,659 $ 16,121 $ 14,712 $ 13,438 61.9% 63.4% 62.9% 1.5-pts (0.5)-pts $ 2,220 $ 1,623 $ 1,661 37% (2%) (1) See the section of this MD&A entitled Adjusted performance measures for an explanation of this non-GAAP measure. (2) See the section of this MD&A entitled Liquidity and capital resources – Free cash ﬂow for an explanation of this non-GAAP measure. 2014 compared to 2013 In 2014, net income was $3,167 million, an increase of $555 million, or 21%, when compared to 2013, with diluted earnings per share rising 25% to $3.85. The $555 million increase was mainly due to an increase in Operating income, net of related income taxes. Operating income for the year ended December 31, 2014 increased by $751 million, or 19%, to $4,624 million. The operating ratio, deﬁned as operating expenses as a percentage of revenues, was 61.9% in 2014, compared to 63.4% in 2013, a 1.5-point improvement. Revenues for the year ended December 31, 2014 increased by $1,559 million or 15%, to $12,134 million, mainly attributable to: • higher freight volumes due to a record 2013/2014 Canadian grain crop, strong energy markets, particularly crude oil and frac sand, as well as new intermodal and automotive business; the positive translation impact of the weaker Canadian dollar on US dollar-denominated revenues; and freight rate increases. • • Operating expenses for the year ended December 31, 2014 increased by $808 million, or 12%, to $7,510 million, mainly due to: • • the negative translation impact of a weaker Canadian dollar on US dollar-denominated expenses; increased purchased services and material expense; • higher fuel costs; and • increased labor and fringe beneﬁts expense. Canadian National Railway Company U.S. GAAP 2014 Annual Report 17 Management’s Discussion and Analysis Adjusted performance measures The following table provides a reconciliation of net in- Management believes that adjusted net income and adjusted come and earnings per share, as reported for the years ended earnings per share are useful measures of performance that can December 31, 2014, 2013 and 2012, to the adjusted perform- facilitate period-to-period comparisons, as they exclude items ance measures presented herein. that do not necessarily arise as part of the normal day-to-day operations of the Company and could distort the analysis of trends in business performance. The exclusion of such items in adjusted net income and adjusted earnings per share does not, however, imply that such items are necessarily non-recurring. These adjusted measures do not have any standardized meaning prescribed by GAAP and therefore, may not be comparable to similar measures presented by other companies. The reader is advised to read all information provided in the Company’s 2014 Annual Consolidated Financial Statements, Notes thereto and this MD&A. In millions, except per share data Year ended December 31, 2014 2013 2012 Net income as reported $ 3,167 $ 2,612 $ 2,680 Adjustments: Other income Income tax expense (80) 8 (69) 39 (281) 57 Adjusted net income $ 3,095 $ 2,582 $ 2,456 Basic earnings per share as reported $ 3.86 $ 3.10 $ 3.08 Impact of adjustments, per share (0.09) (0.03) (0.26) Adjusted basic earnings per share $ $ 3.77 $ 3.07 $ 2.82 3.85 $ 3.09 $ 3.06 For the year ended December 31, 2014, the Company re- Diluted earnings per share as reported ported adjusted net income of $3,095 million, or $3.76 per dilut- Impact of adjustments, per share (0.09) (0.03) (0.25) ed share. The adjusted ﬁgures for the year ended December 31, Adjusted diluted earnings per share $ 3.76 $ 3.06 $ 2.81 Constant currency Financial results at constant currency allow results to be viewed without the impact of ﬂuctuations in foreign currency exchange rates, thereby facilitating period-to-period comparisons in the analysis of trends in business performance. Measures at constant currency are considered non-GAAP measures and do not have any standardized meaning prescribed by GAAP and therefore, may not be comparable to similar measures presented by other companies. Financial results at constant currency are obtained by translating the current period results denominated in US dollars at the foreign exchange rates of the comparable period of the prior year. The average foreign exchange rates were $1.10 and $1.03 per US$1.00, for the years ended December 31, 2014 and 2013, respectively. On a constant currency basis, the Company’s net income for the year ended December 31, 2014 would have been lower by $121 million, or $0.15 per diluted share. 2014 exclude a gain on disposal of the Deux-Montagnes sub- division, including the Mont-Royal tunnel, together with the rail ﬁxtures (collectively the “Deux-Montagnes”), of $80 million, or $72 million after-tax ($0.09 per diluted share). For the year ended December 31, 2013, the Company re- ported adjusted net income of $2,582 million, or $3.06 per dilut- ed share. The adjusted ﬁgures for the year ended December 31, 2013 exclude a gain on exchange of perpetual railroad operating easements including the track and roadway assets on speciﬁc rail lines (collectively the “exchange of easements”), of $29 million, or $18 million after-tax ($0.02 per diluted share) and a gain on disposal of a segment of the Oakville subdivision, together with the rail ﬁxtures and certain passenger agreements (collectively the “Lakeshore West”), of $40 million, or $36 million after-tax ($0.04 per diluted share). The adjusted ﬁgures also exclude a $24 million ($0.03 per diluted share) income tax expense from the enactment of higher provincial corporate income tax rates. For the year ended December 31, 2012, the Company re- ported adjusted net income of $2,456 million, or $2.81 per dilut- ed share. The adjusted ﬁgures for the year ended December 31, 2012 exclude a gain on disposal of a segment of the Bala and a segment of the Oakville subdivisions, together with the rail ﬁxtures and certain passenger agreements (collectively the “Bala- Oakville”), of $281 million, or $252 million after-tax ($0.29 per basic share or $0.28 per diluted share); and a net income tax expense of $28 million ($0.03 per diluted share) consisting of a $35 million income tax expense resulting from the enactment of higher provincial corporate income tax rates that was partly offset by a $7 million income tax recovery resulting from the re- capitalization of a foreign investment. 18 2014 Annual Report U.S. GAAP Canadian National Railway Company Management’s Discussion and Analysis Revenues In millions, unless otherwise indicated Year ended December 31, 2014 2013 % Change % Change at constant currency Rail freight revenues $ 11,455 $ 9,951 15% 11% Other revenues Total revenues 679 624 9% 4% $ 12,134 $ 10,575 15% 10% Rail freight revenues Petroleum and chemicals $ 2,354 $ 1,952 21% 15% Metals and minerals 1,484 1,240 20% 14% Forest products 1,523 1,424 Coal 740 713 7% 4% 2% - Grain and fertilizers 1,986 1,638 21% 17% Intermodal Automotive 2,748 2,429 13% 11% 620 555 12% 6% Total rail freight revenues $ 11,455 $ 9,951 15% 11% Revenue ton miles (RTM) (millions) 232,138 210,133 10% 10% Rail freight revenue/RTM (cents) 4.93 4.74 Carloads (thousands) 5,625 5,190 4% 8% Rail freight revenue/carload (dollars) 2,036 1,917 6% - 8% 2% Petroleum and chemicals Year ended December 31, 2014 2013 % Change % Change at constant currency Revenues (millions) $ 2,354 $ 1,952 21% 15% RTMs (millions) 53,169 44,634 19% 19% Revenue/RTM (cents) 4.43 4.37 1% (3%) The petroleum and chemicals commodity group comprises a wide range of commodities, including chemicals and plastics, reﬁned petroleum products, natural gas liquids, crude oil and sulfur. The primary markets for these commodities are within North America, and as such, the performance of this commodity group is closely correlated with the North American economy as well as oil and gas In order to better represent rail freight and related revenues within the production. Most of the Company’s petroleum and chemicals ship- commodity groups and maintain non-rail services that support CN’s rail ments originate in the Louisiana petrochemical corridor between business within Other revenues, certain other revenues were reclassiﬁed New Orleans and Baton Rouge; in Western Canada, a key oil and to the commodity groups within rail freight revenues. Revenues earned gas development area and a major center for natural gas feed- from trucking intermodal goods were reclassiﬁed from Other revenues stock and world-scale petrochemicals and plastics; and in eastern to the Intermodal commodity group and services that relate to the Canadian regional plants. movement of rail freight were reclassiﬁed from Other revenues to the For the year ended December 31, 2014, revenues for this related commodity groups. The 2013 comparative ﬁgures have been commodity group increased by $402 million, or 21%, when com- reclassiﬁed in order to be consistent with the 2014 presentation as dis- pared to 2013. The increase was mainly due to higher crude oil cussed herein. This change has no impact on the Company’s previously and natural gas liquid shipments, the positive translation impact reported results of operations as Total revenues remain unchanged. of a weaker Canadian dollar, freight rate increases, and higher Revenues for the year ended December 31, 2014, totaled fuel surcharge revenues due to higher freight volumes partly offset $12,134 million compared to $10,575 million in 2013. The in- by a lower fuel surcharge rate. These factors were partly offset by crease of $1,559 million, or 15%, was mainly attributable to lower volumes of chlorine and sulfur. higher freight volumes due to a record 2013/2014 Canadian grain Revenue per revenue ton mile increased by 1% in 2014, mainly crop, strong energy markets, particularly crude oil and frac sand, due to the positive translation impact of a weaker Canadian dollar new intermodal and automotive business; the positive translation and freight rate increases, partly offset by a signiﬁcant increase in impact of the weaker Canadian dollar on US dollar-denominated the average length of haul. revenues; and freight rate increases. Fuel surcharge revenues increased by $72 million in 2014, due to higher freight volumes partly offset by lower fuel surcharge rates. In 2014, revenue ton miles (RTM), measuring the relative weight and distance of rail freight transported by the Company, increased by 10% relative to 2013. Rail freight revenue per revenue ton mile, a measurement of yield Percentage of 2014 revenues Carloads (thousands) 38% Chemicals and plastics Year ended December 31, 32% Crude and condensate 25% Reﬁned petroleum products 5% Sulfur 2012 594 2013 611 2014 655 deﬁned as revenue earned on the movement of a ton of freight over 38% 32% one mile, increased by 4% when compared to 2013, driven by the positive translation impact of the weaker Canadian dollar and freight rate increases, partly offset by an increase in the average length of haul. 25% 5% Canadian National Railway Company U.S. GAAP 2014 Annual Report 19 Management’s Discussion and Analysis Management’s Discussion and Analysis Forest products Year ended December 31, 2014 2013 % Change % Change at constant currency Revenues (millions) $ 1,523 $ 1,424 RTMs (millions) 29,070 29,630 Revenue/RTM (cents) 5.24 4.81 7% (2%) 9% 2% (2%) 4% The forest products commodity group includes various types of lumber, panels, paper, wood pulp and other ﬁbers such as logs, recycled paper, wood chips, and wood pellets. The Company has extensive rail access to the western and eastern Canadian ﬁber-producing regions, which are among the largest ﬁber source areas in North America. In the U.S., the Company is strategically located to serve both the midwest and southern U.S. corridors with interline connections to other Class I railroads. The key drivers for the various commodities are: for newsprint, advertising lineage, non-print media and overall eco- nomic conditions, primarily in the U.S.; for ﬁbers (mainly wood pulp), the consumption of paper, pulpboard and tissue in North American and offshore markets; and for lumber and panels, hous- ing starts and renovation activities primarily in the U.S. For the year ended December 31, 2014, revenues for this com- modity group increased by $99 million, or 7%, when compared to 2013. The increase was mainly due to the positive translation impact of a weaker Canadian dollar, freight rate increases, and higher volumes of lumber and panels to U.S. markets. These factors were partly offset by decreased shipments of lumber and wood pulp to offshore markets and lower fuel surcharge revenues Metals and minerals Year ended December 31, 2014 2013 % Change % Change at constant currency Revenues (millions) $ 1,484 $ 1,240 20% 14% RTMs (millions) 24,686 21,342 16% 16% Revenue/RTM (cents) 6.01 5.81 3% (2%) The metals and minerals commodity group consists primarily of materials related to oil and gas development, steel, iron ore, non-ferrous base metals and ores, construction materials and machinery and dimensional (large) loads. The Company provides unique rail access to base metals, iron ore and frac sand mining as well as aluminum and steel producing regions, which are among the most important in North America. This strong origin franchise, coupled with the Company’s access to port facilities and the end markets for these commodities, has made CN a leader in the transportation of metals and minerals products. The key drivers for this market segment are oil and gas development, automotive production, and non-residential construction. For the year ended December 31, 2014, revenues for this commodity group increased by $244 million, or 20%, when com- pared to 2013. The increase was mainly due to higher volumes of frac sand, increased shipments of semi-ﬁnished steel products, the positive translation impact of a weaker Canadian dollar, and freight rate increases. Revenue per revenue ton mile increased by 3% in 2014, mainly due to the positive translation impact of a weaker Canadian dollar due to lower freight volumes. and freight rate increases, partly offset by a signiﬁcant increase in the average length of haul. Revenue per revenue ton mile increased by 9% in 2014, mainly due to the positive translation impact of a weaker Canadian dollar and freight rate increases, partly offset by an increase in the aver- Percentage of 2014 revenues Carloads (thousands) age length of haul. 29% Metals Year ended December 31, 29% Energy materials 25% Minerals 17% Iron ore 29% 29% 17% 25% 2012 1,024 2013 1,048 2014 1,063 Percentage of 2014 revenues Carloads (thousands) 52% Pulp and paper Year ended December 31, 48% Lumber and panels 52% 48% 2012 445 2013 446 2014 433 20 2014 Annual Report U.S. GAAP Canadian National Railway Company Management’s Discussion and Analysis Coal Year ended December 31, 2014 2013 % Change % Change at constant currency Grain and fertilizers Revenues (millions) $ 740 $ 713 RTMs (millions) 21,147 22,315 Revenue/RTM (cents) 3.50 3.20 4% (5%) 9% - (5%) 5% The coal commodity group consists of thermal grades of bitumin- ous coal, metallurgical coal and petroleum coke. Canadian ther- Year ended December 31, 2014 2013 % Change % Change at constant currency Revenues (millions) $ 1,986 $ 1,638 21% 17% RTMs (millions) 51,326 43,180 19% 19% Revenue/RTM (cents) 3.87 3.79 2% (1%) mal and metallurgical coal are largely exported via terminals on The grain and fertilizers commodity group depends primarily on the west coast of Canada to offshore markets. In the U.S., thermal crops grown and fertilizers processed in western Canada and the coal is transported from mines served in southern Illinois, or from U.S. midwest. The grain segment consists of three primary seg- western U.S. mines via interchange with other railroads, to major ments: food grains (mainly wheat, oats and malting barley), feed utilities in the midwest and southeast U.S., as well as offshore grains and feed grain products (including feed barley, feed wheat, markets via terminals in the Gulf and the Port of Prince Rupert. peas, corn, ethanol and dried distillers grains), and oilseeds and oil- For the year ended December 31, 2014, revenues for this com- seed products (primarily canola seed, oil and meal, and soybeans). modity group increased by $27 million, or 4%, when compared to Production of grain varies considerably from year to year, affected 2013. The increase was mainly due to freight rate increases and primarily by weather conditions, seeded and harvested acreage, the the positive translation impact of a weaker Canadian dollar, partly mix of grains produced and crop yields. Grain exports are sensitive offset by lower volumes. Decreased shipments of metallurgical to the size and quality of the crop produced, international market coal, thermal coal, and petroleum coke through west coast ports conditions and foreign government policy. The majority of grain were partly offset by increased shipments of thermal coal to U.S. produced in western Canada and moved by CN is exported via utilities and for export through the Gulf. the ports of Vancouver, Prince Rupert and Thunder Bay. Certain of Revenue per revenue ton mile increased by 9% in 2014, mainly these rail movements are subject to government regulation and to due to freight rate increases, the positive translation impact of a a revenue cap, which effectively establishes a maximum revenue weaker Canadian dollar, and a signiﬁcant decrease in the average entitlement that railways can earn. In the U.S., grain grown in Illinois length of haul. Percentage of 2014 revenues Carloads (thousands) 87% Coal 13% Petroleum coke 13% 87% Year ended December 31, 2012 435 2013 416 2014 519 and Iowa is exported as well as transported to domestic processing facilities and feed markets. The Company also serves major pro- ducers of potash in Canada, as well as producers of ammonium nitrate, urea and other fertilizers across Canada and the U.S. For the year ended December 31, 2014, revenues for this commodity group increased by $348 million, or 21%, when com- pared to 2013. The increase was mainly due to higher volumes of Canadian wheat and canola due to a record 2013/2014 Canadian grain crop, as well as increased shipments of corn and soybeans for export due to higher crop yields in the U.S.; the positive translation impact of a weaker Canadian dollar; and freight rate increases. These factors were partly offset by lower volumes of fertilizers. Revenue per revenue ton mile increased by 2% in 2014, mainly due to the positive translation impact of a weaker Canadian dollar and freight rate increases, partly offset by a signiﬁcant increase in the average length of haul. Percentage of 2014 revenues Carloads (thousands) 31% Oilseeds 28% Food grains 23% Feed grains 18% Fertilizers 31% 28% 18% 23% Year ended December 31, 2012 597 2013 572 2014 640 U.S. GAAP 2014 Annual Report 21 Management’s Discussion and Analysis Automotive Year ended December 31, 2014 2013 % Change % Change at constant currency Intermodal Year ended December 31, 2014 2013 % Change % Change at constant currency Revenues (millions) $ 620 $ 555 12% 6% RTMs (millions) 3,159 2,741 15% 15% Revenue/RTM (cents) 19.63 20.25 (3%) (8%) Revenues (millions) $ 2,748 $ 2,429 13% 11% RTMs (millions) 49,581 46,291 Revenue/RTM (cents) 5.54 5.25 7% 6% 7% 3% The automotive commodity group moves both ﬁnished vehicles and parts throughout North America, providing The intermodal commodity group includes rail and trucking services rail access to certain vehicle assembly and is comprised of two segments: domestic and international. The plants in Canada, and Michigan and domestic segment transports consumer products and manufactured Mississippi in the U.S. The Company goods, serving both retail and wholesale channels, within domestic also serves vehicle distribution facilities Canada, domestic U.S., Mexico and transborder, while the inter- in Canada and the U.S., as well as parts national segment handles import and export container trafﬁc, directly production facilities in Michigan and serving the major ports of Vancouver, Prince Rupert, Montreal, Halifax Ontario. The Company serves shippers and New Orleans. The domestic segment is driven by consumer mar- of import vehicles via the ports of kets, with growth generally tied to the economy. The international Halifax and Vancouver, and through segment is driven by North American economic and trade conditions. interchange with other railroads. The For the year ended December 31, 2014, revenues for this com- Company’s automotive revenues are modity group increased by $319 million, or 13%, when compared closely correlated to automotive pro- to 2013. The increase was mainly due to new business and higher duction and sales in North America. shipments through the ports of Vancouver and Montreal, and in- For the year ended December 31, creased volumes through the Port of Prince Rupert; the positive 2014, revenues for this commodity group increased by $65 mil- translation impact of a weaker Canadian dollar; higher fuel sur- lion, or 12%, when compared to 2013. The increase was mainly charge revenues due to increased freight volumes; and freight rate due to higher volumes of domestic ﬁnished vehicle trafﬁc as a increases. These increases were partly offset by reduced domestic result of new business and the positive translation impact of a volumes serving wholesale channels. weaker Canadian dollar. Revenue per revenue ton mile increased by 6% in 2014, mainly Revenue per revenue ton mile decreased by 3% in 2014, mainly due to the positive translation impact of a weaker Canadian dollar due to a signiﬁcant increase in the average length of haul, partly off- and freight rate increases. set by the positive translation impact of a weaker Canadian dollar. Percentage of 2014 revenues Carloads (thousands) Percentage of 2014 revenues Carloads (thousands) 62% International 38% Domestic 62% 38% Year ended December 31, 91% Finished vehicles Year ended December 31, 2012 1,742 2013 1,875 2014 2,086 9% Auto parts 9% 91% 2012 222 2013 222 2014 229 Other revenues Year ended December 31, 2014 2013 % Change % Change at constant currency Revenues (millions) $ 679 $ 624 9% 4% Percentage of 2014 revenues 50% Vessels and docks 39% Other non-rail services 11% Other revenues 50% 39% 11% Other revenues are largely derived from non-rail services that sup- port CN’s rail business including vessels and docks, warehousing and distribution, automotive logistic services, freight forwarding and transportation management; as well as other revenues includ- ing commuter train revenues. For the year ended December 31, 2014, Other revenues increased by $55 million, or 9%, when compared to 2013, mainly due to the positive translation impact of a weaker Canadian dollar, higher revenues from vessels and docks, as well as international freight forwarding. 22 2014 Annual Report U.S. GAAP Canadian National Railway Company Management’s Discussion and Analysis Operating expenses Operating expenses for the year ended December 31, 2014 amounted to $7,510 million compared to $6,702 million in 2013. The increase of $808 million, or 12%, in 2014 was mainly due to the negative translation impact of the weaker Canadian dollar on US dollar-denominated expenses, increased purchased services and material expense, higher fuel costs, as well as increased labor and fringe beneﬁts expense. In millions Year ended December 31, 2014 2013 % Change % Change at constant currency Percentage of revenues 2014 2013 Labor and fringe beneﬁts Purchased services and material Fuel Depreciation and amortization Equipment rents Casualty and other Total operating expenses $ 2,319 $ 2,182 1,598 1,351 1,846 1,619 1,050 329 368 980 275 295 (6%) (18%) (14%) (7%) (20%) (25%) (4%) 19.1% (15%) 13.2% (7%) (5%) (13%) (20%) 15.2% 8.7% 2.7% 3.0% 20.6% 12.8% 15.3% 9.3% 2.6% 2.8% $ 7,510 $ 6,702 (12%) (8%) 61.9% 63.4% Labor and fringe beneﬁts and the negative translation impact of the weaker Canadian dollar, Labor and fringe beneﬁts expense includes wages, payroll taxes, partly offset by increased fuel productivity and a lower US dollar and employee beneﬁts such as incentive compensation, including average price for fuel. stock-based compensation; health and welfare; and pension and other postretirement beneﬁts. Certain incentive and stock-based Depreciation and amortization compensation plans are based on ﬁnancial and market perform- Depreciation expense is affected by capital additions, railroad ance targets and the related expense is recorded in relation to the property retirements from disposal, sale and/or abandonment and attainment of such targets. other adjustments including asset impairments. Labor and fringe beneﬁts expense increased by $137 million, or Depreciation and amortization expense increased by $70 mil- 6%, in 2014 when compared to 2013. The increase was primarily lion, or 7%, in 2014 when compared to 2013. The increase was a result of higher headcount to accommodate volume growth, mainly due to net capital additions, the negative translation impact general wage increases, the negative translation impact of the of the weaker Canadian dollar, as well as the change in composite weaker Canadian dollar, as well as higher stock-based compen- depreciation rates resulting from the 2013 depreciation study on sation expense. The increase was partly offset by a decrease in certain U.S. track and roadway properties, partly offset by some pension expense and the impact of improved labor productivity. asset impairments in 2013. Purchased services and material Equipment rents Purchased services and material expense primarily includes the Equipment rents expense includes rental expense for the use of cost of services purchased from outside contractors; materials freight cars owned by other railroads or private companies and used in the maintenance of the Company’s track, facilities and for the short- or long-term lease of freight cars, locomotives and equipment; transportation and lodging for train crew employees; intermodal equipment, net of rental income from other railroads utility costs; and the net costs of operating facilities jointly used for the use of the Company’s cars and locomotives. by the Company and other railroads. Equipment rents expense increased by $54 million, or 20%, Purchased services and material expense increased by $247 mil- in 2014 when compared to 2013. The increase was primarily due lion, or 18%, in 2014 when compared to 2013. The increase was to increased car hire expense due to higher volumes, the negative mainly due to weather-related conditions in the ﬁrst quarter of 2014 translation impact of the weaker Canadian dollar and higher costs that impacted materials, utilities, and maintenance costs for rolling for the use of equipment from other railroads, partly offset by stock; the negative translation impact of the weaker Canadian dol- increased car hire income. lar; as well as increased freight volumes that resulted in higher costs for materials and third-party non-rail transportation carriers. Casualty and other Fuel Casualty and other expense includes expenses for personal injur- ies, environmental, freight and property damage, insurance, bad Fuel expense includes fuel consumed by assets, including loco- debt, operating taxes, and travel expenses. motives, vessels, vehicles and other equipment as well as federal, Casualty and other expense increased by $73 million, or 25%, provincial and state fuel taxes. in 2014 when compared to 2013. The increase was mainly due Fuel expense increased by $227 million, or 14%, in 2014 when to higher accident-related costs, increased property taxes and the compared to 2013. The increase was due to higher freight volumes Canadian National Railway Company U.S. GAAP 2014 Annual Report 23 Management’s Discussion and Analysis negative impact of the weaker Canadian dollar, partly offset by Income tax expense lower workers’ compensation expenses. The Company recorded income tax expense of $1,193 million for Other income and expenses Interest expense the year ended December 31, 2014, compared to $977 million in 2013. Included in the 2014 ﬁgure was an income tax recovery of In 2014, interest expense was $371 million compared to $18 million resulting from a change in estimate of the deferred $357 million in 2013. The increase was mainly due to the nega- income tax liability related to properties. tive translation impact of the weaker Canadian dollar on US dol- Included in the 2013 ﬁgure was a net income tax recovery lar-denominated interest expense partly offset by lower interest of $7 million consisting of a $24 million income tax expense expense on capital lease obligations. Other income resulting from the enactment of higher provincial corporate in- come tax rates; a $15 million income tax recovery resulting from the recognition of U.S. state income tax losses; and a $16 million In 2014, the Company recorded other income of $107 million income tax recovery resulting from a revision of the apportion- compared to $73 million in 2013. Included in Other income for ment of U.S. state income taxes. 2014 was a gain on disposal of the Deux-Montagnes of $80 mil- The effective tax rate for 2014 was 27.4% compared to lion. Included in Other income for 2013 was a gain on the ex- 27.2% in 2013. Excluding the net income tax recoveries of change of easements of $29 million and a gain on disposal of the $18 million and $7 million in 2014 and 2013, respectively, Lakeshore West of $40 million. the effective tax rate for 2014 was 27.8% compared to 27.4% in 2013. 2013 compared to 2012 In 2013, net income was $2,612 million, a decrease of $68 million, or 3%, when compared to 2012, with diluted earnings per share rising 1% to $3.09. The $68 million decrease was mainly due to a reduction in Other income resulting from lower gains on disposal of rail assets that was partly offset by an increase in Operating income. Included in the 2013 ﬁgures was a gain on the exchange of easements of $29 million, or $18 million after-tax ($0.02 per diluted share) and a gain on disposal of the Lakeshore West of $40 million, or $36 million after-tax ($0.04 per diluted share). The 2013 ﬁgures also included a $24 million ($0.03 per diluted share) income tax expense from the enactment of higher provincial corporate income tax rates. Included in the 2012 ﬁgures was a gain on disposal of the Bala-Oakville of $281 million, or $252 million after-tax ($0.28 per diluted share) and a net income tax expense of $28 million ($0.03 per diluted share) consisting of a $35 million income tax expense resulting from the enactment of higher provincial corporate income tax rates that was partly offset by a $7 million income tax recovery resulting from the recapitalization of a foreign investment. Operating income for the year ended December 31, 2013 increased by $188 million, or 5%, to $3,873 million. The operating ratio was 63.4% in 2013, compared to 62.9% in 2012, a 0.5-point deterioration. Revenues for the year ended December 31, 2013 increased by $655 million, or 7%, to $10,575 million, mainly attributable to: • freight rate increases; • higher freight volumes due to strong energy markets, market share gains, as well as growth in the North American economy; • the positive translation impact of the weaker Canadian dollar on US dollar-denominated revenues; and • higher fuel surcharge revenues, mainly as a result of higher freight volumes. Operating expenses for the year ended December 31, 2013 increased by $467 million, or 7%, to $6,702 million, mainly due to: • higher labor and fringe beneﬁts expense; • • the negative translation impact of the weaker Canadian dollar on US dollar-denominated expenses; and increased purchased services and material expense, in part due to weather-related conditions; • partly offset by lower casualty and other expense. On a constant currency basis, the Company’s net income for the year ended December 31, 2013 would have been lower by $37 million, or $0.04 per diluted share. 24 2014 Annual Report U.S. GAAP Canadian National Railway Company Management’s Discussion and Analysis Revenues Petroleum and chemicals In millions, unless otherwise indicated Year ended December 31, 2013 2012 % Change % Change at constant currency Rail freight revenues $ 9,951 $ 9,306 Other revenues Total revenues 624 614 $ 10,575 $ 9,920 7% 2% 7% 5% - 5% Rail freight revenues Petroleum and chemicals $ 1,952 $ 1,655 18% 16% Metals and minerals 1,240 1,159 Forest products 1,424 1,341 7% 6% 5% 4% Coal 713 731 (2%) (4%) Grain and fertilizers 1,638 1,613 Intermodal Automotive 2,429 2,261 555 546 Total rail freight revenues $ 9,951 $ 9,306 2% 7% 2% 7% Revenue ton miles (RTM) (millions) 210,133 201,496 4% Rail freight revenue/RTM (cents) Carloads 4.74 4.62 3% (thousands) 5,190 5,059 3% Rail freight revenue/carload (dollars) 1,917 1,839 4% - 7% - 5% 4% 1% 3% 3% Year ended December 31, 2013 2012 % Change % Change at constant currency Revenues (millions) $ 1,952 $ 1,655 18% 16% RTMs (millions) 44,634 37,449 19% 19% Revenue/RTM (cents) 4.37 4.42 (1%) (3%) For the year ended December 31, 2013, revenues for this com- modity group increased by $297 million, or 18%, when compared to 2012. The increase was mainly due to signiﬁcantly higher crude oil shipments, and increased volumes of propane, freight rate increases, the positive translation impact of a weaker Canadian dollar, and higher fuel surcharge revenues due to longer haul vol- umes. These factors were partly offset by lower volumes of sulfur and reduced shipments of reﬁned petroleum products due to a customer conversion to pipeline. Revenue per revenue ton mile decreased by 1% in 2013, main- ly due to a signiﬁcant increase in the average length of haul, offset by freight rate increases and the positive translation impact of a weaker Canadian dollar. Metals and minerals 2012 % Change % Change at constant currency In order to better represent rail freight and related revenues Year ended December 31, 2013 within the commodity groups and maintain non-rail services that Revenues (millions) $ 1,240 $ 1,159 support CN’s rail business within Other revenues, certain other RTMs (millions) revenues were reclassiﬁed to the commodity groups within rail Revenue/RTM (cents) 21,342 20,236 5.81 5.73 7% 5% 1% 5% 5% (1%) freight revenues. Revenues earned from trucking intermodal goods were reclassiﬁed from Other revenues to the Intermodal commodity group and services that relate to the movement of rail freight were reclassiﬁed from Other revenues to the related commodity groups. The 2013 and 2012 ﬁgures have been re- classiﬁed in order to be consistent with the 2014 presentation as discussed herein. This change has no impact on the Company’s previously reported results of operations as Total revenues remain unchanged. Revenues for the year ended December 31, 2013 totaled $10,575 million compared to $9,920 million in 2012. The in- crease of $655 million, or 7%, was mainly attributable to freight rate increases; higher freight volumes due to strong energy markets, market share gains, as well as growth in the North American economy and the positive translation impact of the weaker Canadian dollar on US dollar-denominated revenues. Fuel surcharge revenues increased by approximately $35 million in 2013 mainly as a result of higher freight volumes. In 2013, RTMs, increased by 4% relative to 2012. Rail freight revenue per revenue ton mile, increased by 3% when compared to 2012, driven by freight rate increases and the positive trans- lation impact of the weaker Canadian dollar, partly offset by an increase in the average length of haul. For the year ended December 31, 2013, revenues for this com- modity group increased by $81 million, or 7%, when compared to 2012. The increase was mainly due to freight rate increases, higher volumes of frac sand and the positive translation impact of a weaker Canadian dollar. These factors were partly offset by lower shipments of steel products and non-ferrous ores. Revenue per revenue ton mile increased by 1% in 2013, mainly due to freight rate increases and the positive translation impact of a weaker Canadian dollar, partly offset by an increase in the average length of haul, mainly in the fourth quarter. Forest products Year ended December 31, 2013 2012 % Change % Change at constant currency Revenues (millions) $ 1,424 $ 1,341 RTMs (millions) 29,630 29,674 Revenue/RTM (cents) 4.81 4.52 6% - 6% 4% - 4% For the year ended December 31, 2013, revenues for this com- modity group increased by $83 million, or 6%, when compared to 2012. The increase was mainly due to freight rate increases, the positive translation impact of a weaker Canadian dollar, and Canadian National Railway Company U.S. GAAP 2014 Annual Report 25 Management’s Discussion and Analysis increased shipments of lumber and panels to the U.S. due to an Intermodal improvement in the housing market. These factors were partly offset by a decrease in shipments of wood pulp, in part due to a mill closure in western Canada. Year ended December 31, 2013 2012 % Change % Change at constant currency Revenue per revenue ton mile increased by 6% in 2013, mainly due to freight rate increases and the positive translation impact of a weaker Canadian dollar. Revenues (millions) $ 2,429 $ 2,261 RTMs (millions) 46,291 42,396 7% 9% 7% 9% Revenue/RTM (cents) 5.25 5.33 (2%) (2%) Coal Year ended December 31, 2013 2012 % Change % Change at constant currency Revenues (millions) $ 713 $ 731 RTMs (millions) 22,315 23,570 Revenue/RTM (cents) 3.20 3.10 (2%) (5%) 3% (4%) (5%) 2% For the year ended December 31, 2013, revenues for this com- modity group increased by $168 million, or 7%, when compared to 2012. The increase was mainly due to higher shipments through the Port of Vancouver, in part as a result of new business, and increased volumes of domestic intermodal; higher fuel surcharge revenues due to increased freight volumes; the positive translation impact of a weaker Canadian dollar; and freight rate increases. These factors were partly offset by lower volumes through the Port For the year ended December 31, 2013, revenues for this com- of Prince Rupert. modity group decreased by $18 million, or 2%, when compared Revenue per revenue ton mile decreased by 2% in 2013, main- to 2012. The decrease was mainly due to lower volumes of export ly due to an increase in the average length of haul, partly offset thermal coal through west coast ports and reduced shipments of by the positive translation impact of a weaker Canadian dollar and domestic thermal coal to U.S. utilities. These factors were partly freight rate increases. offset by higher shipments of export metallurgical coal through west coast ports; freight rate increases; and the positive trans- Automotive lation impact of a weaker Canadian dollar. Revenue per revenue ton mile increased by 3% in 2013, mainly due to freight rate increases and the positive translation Year ended December 31, 2013 2012 % Change % Change at constant currency impact of a weaker Canadian dollar. Grain and fertilizers Year ended December 31, 2013 2012 % Change % Change at constant currency Revenues (millions) $ 1,638 $ 1,613 RTMs (millions) 43,180 45,417 Revenue/RTM (cents) 3.79 3.55 2% (5%) 7% - (5%) 5% Revenues (millions) $ 555 $ 546 RTMs (millions) 2,741 2,754 Revenue/RTM (cents) 20.25 19.83 2% - 2% - - - For the year ended December 31, 2013, revenues for this com- modity group increased by $9 million, or 2%, when compared to 2012. The increase was mainly due to the positive translation impact of a weaker Canadian dollar and freight rate increases. These factors were partly offset by a non-recurring movement of military equipment in 2012. For the year ended December 31, 2013, revenues for this com- Revenue per revenue ton mile increased by 2% in 2013, mainly modity group increased by $25 million, or 2%, when compared due to the positive translation impact of a weaker Canadian dollar, to 2012. The increase was mainly due to freight rate increases, freight rate increases, and a decrease in the average length of haul. greater volumes of potash for offshore export and the positive translation impact of a weaker Canadian dollar. These factors Other revenues were partly offset by lower shipments of canola and Canadian wheat, mainly for export, and lower volumes of barley. Revenue per revenue ton mile increased by 7% in 2013, Year ended December 31, 2013 2012 % Change % Change at constant currency mainly due to freight rate increases and the positive translation Revenues (millions) $ 624 $ 614 2% - impact of a weaker Canadian dollar. In 2013, Other revenues amounted to $624 million, an increase of $10 million, or 2%, when compared to 2012, mainly due to higher revenues from vessels and docks, partly offset by lower revenues from transportation management services. 26 2014 Annual Report U.S. GAAP Canadian National Railway Company Management’s Discussion and Analysis Operating expenses Operating expenses for the year ended December 31, 2013 amounted to $6,702 million, compared to $6,235 million in 2012. The increase of $467 million, or 7%, in 2013 was mainly due to higher labor and fringe beneﬁts expense; the negative translation impact of the weaker Canadian dollar on US dollar-denominated expenses; and increased purchased services and material expense, in part due to weather-related conditions. These factors were partly offset by lower casualty and other expense. In millions Year ended December 31, 2013 2012 % Change % Change at constant currency Percentage of revenues 2013 2012 Labor and fringe beneﬁts Purchased services and material Fuel Depreciation and amortization Equipment rents Casualty and other Total operating expenses $ 2,182 $ 1,952 (12%) (11%) 20.6% 1,351 1,248 1,619 1,524 980 275 295 924 249 338 (8%) (6%) (6%) (10%) (7%) (3%) (5%) (8%) 13% 15% 12.8% 15.3% 9.3% 2.6% 2.8% $ 6,702 $ 6,235 (7%) (6%) 63.4% 19.7% 12.6% 15.4% 9.3% 2.5% 3.4% 62.9% Labor and fringe beneﬁts increases, higher net car hire expenses, and the negative trans- Labor and fringe beneﬁts expense increased by $230 million, or lation impact of the weaker Canadian dollar. 12%, in 2013 when compared to 2012. The increase was pri- marily a result of increased pension expense, higher wages due Casualty and other to the impact of a higher workforce level as a result of volume Casualty and other expense decreased by $43 million, or 13%, growth and general wage increases, higher incentive compen- in 2013 when compared to 2012. The decrease was mainly due sation, as well as the negative translation impact of the weaker to a reduction to the liability for U.S. legal claims pursuant to an Canadian dollar. Purchased services and material actuarial valuation, as well as overall lower legal expenses; lower environmental expenses; and lower workers’ compensation ex- penses; that were partly offset by the negative translation impact Purchased services and material expense increased by $103 mil- of the weaker Canadian dollar. lion, or 8%, in 2013 when compared to 2012. The increase was mainly due to weather-related conditions impacting materials, Other income and expenses crew accommodation and utilities expenses; higher maintenance Interest expense expenses for track, rolling stock and other equipment; the nega- In 2013, interest expense was $357 million compared to $342 mil- tive translation impact of the weaker Canadian dollar; and higher lion in 2012. The increase was mainly due to a higher level of costs for third-party non-rail transportation providers. debt and the negative translation impact of the weaker Canadian Fuel dollar on US dollar-denominated interest expense, partly offset by a lower weighted-average interest rate. Fuel expense increased by $95 million, or 6%, in 2013 when com- pared to 2012. The increase was primarily due to higher freight vol- Other income umes and the negative translation impact of the weaker Canadian In 2013, the Company recorded other income of $73 million com- dollar. These factors were partly offset by productivity improvements. pared to $315 million in 2012. Included in Other income for 2013 Depreciation and amortization was a gain on exchange of easements in the amount of $29 mil- lion and a gain on disposal of the Lakeshore West of $40 million. Depreciation and amortization expense increased by $56 million, Included in Other income for 2012 was a gain on disposal of the or 6%, in 2013 when compared to 2012. The increase was mainly Bala-Oakville of $281 million. due to the impact of net capital additions, some asset impairments, as well as the effect of a depreciation study on certain U.S. track Income tax expense and roadway properties, which were partly offset by the effect of The Company recorded income tax expense of $977 million for a depreciation study on Canadian track and roadway properties. the year ended December 31, 2013 compared to $978 million Equipment rents in 2012. The 2013 ﬁgure includes a net income tax recovery of $7 million which consisted of a $15 million income tax recovery Equipment rents expense increased by $26 million, or 10%, in from the recognition of U.S. state income tax losses and a $16 mil- 2013 when compared to 2012. The increase was primarily due to lion income tax recovery from a revision of the apportionment of higher lease costs for intermodal equipment on account of volume U.S. state income taxes, which were partly offset by a combined Canadian National Railway Company U.S. GAAP 2014 Annual Report 27 Management’s Discussion and Analysis $24 million income tax expense resulting from the enactment enactment of higher provincial corporate income tax rates that of higher provincial corporate income tax rates. Included in the was partly offset by a $7 million income tax recovery resulting from 2012 ﬁgure was a net income tax expense of $28 million, which the recapitalization of a foreign investment. The effective tax rate consisted of a $35 million income tax expense resulting from the for 2013 was 27.2% compared to 26.7% in 2012. Summary of quarterly ﬁnancial data In millions, except per share data Fourth Third Second First Fourth Third Second First 2014 Quarters 2013 Quarters Revenues Operating income Net income $ 3,207 $ 3,118 $ 3,116 $ 2,693 $ 2,745 $ 2,698 $ 2,666 $ 2,466 $ 1,260 $ 1,286 $ 1,258 $ 844 $ 853 $ 847 $ $ 820 623 $ $ 967 635 $ 1,084 $ 1,042 $ 705 $ 717 $ $ 780 555 Basic earnings per share $ 1.04 $ 1.04 $ 1.03 $ 0.75 $ 0.76 $ 0.84 $ 0.85 $ 0.65 Diluted earnings per share $ 1.03 $ 1.04 $ 1.03 $ 0.75 $ 0.76 $ 0.84 $ 0.84 $ 0.65 Dividends declared per share $ 0.250 $ 0.250 $ 0.250 $ 0.250 $ 0.215 $ 0.215 $ 0.215 $ 0.215 Revenues generated by the Company during the year are inﬂuenced by seasonal weather conditions, general economic conditions, cyclical demand for rail transportation, and competitive forces in the transportation marketplace (see the section of this MD&A entitled Business risks). Operating expenses reﬂect the impact of freight volumes, seasonal weather conditions, labor costs, fuel prices, and the Company’s productivity initiatives. Fluctuations in the Canadian dollar relative to the US dollar have also affected the conversion of the Company’s US dollar-denominated revenues and expenses and resulted in ﬂuctuations in net income in the rolling eight quarters presented above. The Company’s quarterly results include items that impacted the quarter-over-quarter comparability of the results of operations as dis- cussed below: In millions, except per share data Fourth Third Second First Fourth Third Second First 2014 Quarters 2013 Quarters Income tax expenses (1) After-tax gain on disposal of property (2) (3) (4) Impact on net income Impact on basic earnings per share Impact on diluted earnings per share $ $ $ $ - - - - - $ $ $ $ - - - - - $ $ $ $ - - - - - $ $ - 72 72 $ 0.09 $ 0.09 $ $ $ $ - - - - - $ $ $ $ (19) $ (5) $ - (19) $ 18 13 $ - 36 36 (0.02) $ 0.01 $ 0.04 (0.02) $ 0.01 $ 0.04 (1) Income tax expenses resulted from the enactment of provincial corporate income tax rate changes. (2) The Company sold the Deux-Montagnes in the ﬁrst quarter of 2014 for $97 million. A gain on disposal of $80 million ($72 million after-tax) was recognized in Other income. (3) In the second quarter of 2013, the Company entered into an exchange of easements without monetary consideration. A gain of $29 million ($18 million after-tax) was recognized in Other income. (4) The Company sold the Lakeshore West in the ﬁrst quarter of 2013 for $52 million. A gain on disposal of $40 million ($36 million after-tax) was recognized in Other income. Summary of fourth quarter 2014 Fourth quarter 2014 net income was $844 million, an increase of $209 million, or 33%, when compared to the same period in 2013, with diluted earnings per share rising 36% to $1.03. The operating ratio was 60.7% in the fourth quarter of 2014 compared to 64.8% in the fourth quarter of 2013, a 4.1-point improve- ment, in part due to favorable winter conditions. Revenues for the fourth quarter of 2014 increased by $462 million, or 17%, to $3,207 million, when compared to the same period in 2013. The increase was mainly attributable to higher freight volumes due to strong energy markets, a record 2013/2014 Canadian grain crop, and market share gains in intermodal and automotive; the positive translation impact of the weaker Canadian dollar on US dollar- denominated revenues; and freight rate increases. Fuel surcharge revenues decreased by $8 million in the fourth quarter of 2014, due to lower fuel surcharge rates partly offset by higher freight volumes. Operating expenses for the fourth quarter of 2014 increased by $169 million, or 10%, to $1,947 million, when compared to the same period in 2013. The increase was primarily due to the negative translation impact of a weaker Canadian dollar on US dollar-denominated expenses; increased purchased services and material expense; higher casualty and other; as well as increased depreciation and amortization expense. 28 2014 Annual Report U.S. GAAP Canadian National Railway Company Management’s Discussion and Analysis Financial position The following tables provide an analysis of the Company’s balance sheet as at December 31, 2014 as compared to 2013. Assets and liabilities denominated in US dollars have been translated to Canadian dollars using the foreign exchange rate in effect at the balance sheet date. As at December 31, 2014 and 2013, the foreign exchange rates were $1.1601 and $1.0636 per US$1.00, respectively. In millions December 31, 2014 2013 Foreign exchange impact Variance excluding foreign exchange Explanation of variance, other than foreign exchange impact Total assets $ 31,792 $ 30,163 $ 1,134 $ 495 Variance mainly due to: Properties 28,514 26,227 1,032 1,255 Increase primarily due to gross property additions of $2,297 mil lion, partly offset by depreciation of $1,050 mil lion. Pension asset 882 1,662 - (780) Decrease due primarily to the decrease in the year-end discount rate from 4.73% in 2013 to 3.87% in 2014. Total liabilities $ 18,322 $ 17,210 $ 1,057 $ 55 Variance mainly due to: Accounts payable and other 1,657 1,477 49 131 Increase primarily due to higher income and other taxes payable of $112 million. Other liabilities and deferred credits 704 815 37 (148) Decrease primarily due to lower stock-based compen- sation liabilities of $149 million as a result of the modi- ﬁcation of certain stock-based compensation awards from cash settled to equity settled. Pension and other postretirement beneﬁts 650 541 14 95 Increase due primarily to the decrease in the year-end discount rate from 4.73% in 2013 to 3.87% in 2014. In millions December 31, 2014 2013 Variance Explanation of variance Total shareholders’ equity $ 13,470 $ 12,953 $ 517 Variance mainly due to: Common shares 3,718 3,795 (77) Decrease due to share repurchases. Additional paid-in capital 439 220 219 Increase primarily due to the modiﬁcation of certain stock-based compensation awards from cash settled to equity settled. Accumulated other comprehensive loss (2,427) (1,850) (577) Increase in comprehensive loss due to after-tax amounts of $728 million to recognize the funded status of the Company’s pension and other postretirement beneﬁt plans, offset by $151 million for foreign exchange gains and other. Retained earnings 11,740 10,788 952 Increase due to current year net income of $3,167 mil- lion, partly offset by share repurchases of $1,397 mil- lion and dividends paid of $818 million. Canadian National Railway Company U.S. GAAP 2014 Annual Report 29 Management’s Discussion and Analysis Liquidity and capital resources The Company’s principal source of liquidity is cash generated from can decide to repatriate funds associated with either undistribut- operations, which is supplemented by borrowings in the money ed earnings or the liquidation of its foreign operations, including markets and capital markets. To meet its short-term liquidity its U.S. and other foreign subsidiaries. Such repatriation of funds needs, the Company has access to various ﬁnancing sources, in- would not cause signiﬁcant tax implications to the Company cluding a committed revolving credit facility, a commercial paper under the tax treaties currently in effect between Canada and program, and an accounts receivable securitization program. In the U.S. and other foreign tax jurisdictions. Therefore, the impact addition to these sources, the Company can issue debt securities on liquidity resulting from the repatriation of funds held outside to meet its longer-term liquidity needs. The Company’s access Canada would not be signiﬁcant as the Company expects to con- to long-term funds in the debt capital markets depends on its tinuously invest in these foreign jurisdictions. credit rating and market conditions. The Company believes that it The Company is not aware of any trends or expected ﬂuctu- continues to have access to the long-term debt capital markets. If ations in its liquidity that would impact its ongoing operations or the Company were unable to borrow funds at acceptable rates in ﬁnancial condition. the long-term debt capital markets, the Company could borrow under its revolving credit facility, draw down on its accounts re- Available ﬁnancing sources ceivable securitization program, raise cash by disposing of surplus Revolving credit facility properties or otherwise monetizing assets, reduce discretionary The Company’s revolving credit facility agreement, which expires spending or take a combination of these measures to assure that on May 5, 2019, provides access to $800 million of debt, with an it has adequate funding for its business. The strong focus on cash accordion feature providing for an additional $500 million subject generation from all sources gives the Company increased ﬂexibil- to the consent of individual lenders. The credit facility is available ity in terms of meeting its ﬁnancing requirements. for working capital and general corporate purposes, including The Company’s primary uses of funds are for working cap- backstopping the Company’s commercial paper program. ital requirements, including income tax installments, pension As at December 31, 2014 and December 31, 2013, the contributions, and contractual obligations; capital expenditures Company had no outstanding borrowings under its revolving relating to track infrastructure and other; acquisitions; dividend credit facility and there were no draws during the years ended payouts; and the repurchase of shares through share buyback December 31, 2014 and 2013. programs. The Company sets priorities on its uses of available funds based on short-term operational requirements, expendi- Commercial paper tures to continue to operate a safe railway and pursue strategic The Company’s commercial paper program, which is fully sup- initiatives, while also considering its long-term contractual obli- ported by its revolving credit facility, enables it to issue commercial gations and returning value to its shareholders; and as part of paper up to a maximum aggregate principal amount of $800 mil- its ﬁnancing strategy, the Company regularly reviews its optimal lion, or the US dollar equivalent. The program provides a ﬂex- capital structure, cost of capital, and the need for additional debt ible ﬁnancing alternative for the Company, and is reﬁnanced at ﬁnancing. market rates in effect. Access to commercial paper is dependent The Company has at times had working capital deﬁcits on market conditions. If the Company were to lose access to its which are considered common in the rail industry because it is commercial paper program for an extended period of time, the capital-intensive, and such deﬁcits are not an indication of a lack Company could rely on its $800 million revolving credit facility to of liquidity. The Company maintains adequate resources to meet meet its short-term liquidity needs. daily cash requirements, and has sufﬁcient ﬁnancial capacity to As at December 31, 2014, the Company had no commercial manage its day-to-day cash requirements and current obligations. paper borrowings ($273 million as at December 31, 2013) pre- As at December 31, 2014 and December 31, 2013, the Company sented in Current portion of long-term debt on the Consolidated had Cash and cash equivalents of $52 million and $214 million, Balance Sheet. respectively; Restricted cash and cash equivalents of $463 million and $448 million, respectively; and a working capital deﬁcit of Accounts receivable securitization program $135 million and $521 million, respectively. The cash and cash The Company has an agreement to sell an undivided co- equivalents pledged as collateral for a minimum term of one ownership interest in a revolving pool of accounts receivable to month pursuant to the Company’s bilateral letter of credit facilities unrelated trusts for maximum cash proceeds of $450 million, are recorded as Restricted cash and cash equivalents. There are which expires on February 1, 2017. The trusts are multi-seller currently no speciﬁc requirements relating to working capital other trusts and the Company is not the primary beneﬁciary. Funding than in the normal course of business as discussed herein. for the acquisition of these assets is customarily through The Company’s U.S. and other foreign subsidiaries hold cash the issuance of asset-backed commercial paper notes by the to meet their respective operational requirements. The Company unrelated trusts. 30 2014 Annual Report U.S. GAAP Canadian National Railway Company Management’s Discussion and Analysis The Company has retained the responsibility for servicing, Shelf prospectus and registration statement administering and collecting the receivables sold. The average During 2014, the Company issued C$250 million and servicing period is approximately one month. Subject to US$600 million in new debt under its current shelf prospectus customary indemniﬁcations, each trust’s recourse is limited to the and registration statement which provides for the issuance by accounts receivable transferred. CN of up to $3.0 billion of debt securities in the Canadian and The Company is subject to customary credit rating U.S. capital markets. The shelf prospectus and registration state- requirements, which if not met, could result in termination ment expires in January 2016. Access to capital markets under of the program. The Company is also subject to customary the shelf prospectus and registration statement is dependent on reporting requirements for which failure to perform could also market conditions at the time of pricing. result in termination of the program. The Company monitors the reporting requirements and is currently not aware of any trends, Cash ﬂows events or conditions that could cause such termination. The following table presents a summary of the Company’s cash The accounts receivable securitization program provides the ﬂows provided by/used in operating, investing and ﬁnancing Company with readily available short-term ﬁnancing for general activities: corporate use. In the event the program is terminated before its scheduled maturity, the Company expects to meet its future In millions Year ended December 31, 2014 2013 Variance payment obligations through its various sources of ﬁnancing Net cash provided by operating activities $ 4,381 $ 3,548 $ 833 including its revolving credit facility and commercial paper Net cash used in investing activities (2,176) (1,852) program, and/or access to capital markets. Net cash used in ﬁnancing activities (2,370) (1,656) (324) (714) As at December 31, 2014, the Company recorded $50 million Effect of foreign exchange ﬂuctuations ($250 million as at December 31, 2013) of proceeds received under the accounts receivable securitization program in the Current portion of long-term debt on the Consolidated Balance Sheet, which is secured by and limited to $56 million ($281 million as at December 31, 2013) of accounts receivable. on US dollar-denominated cash and cash equivalents 3 19 (16) Net increase (decrease) in cash and cash equivalents (162) Cash and cash equivalents, beginning of year 214 59 155 (221) 59 Cash and cash equivalents, end of year $ 52 $ 214 $ (162) Bilateral letter of credit facilities Operating activities The Company has a series of bilateral letter of credit facility Net cash provided by operating activities increased by $833 mil- agreements with various banks to support its requirements to lion in 2014, mainly due to higher revenues and lower payments post letters of credit in the ordinary course of business, which for income taxes and pensions. These factors were partly offset expire on April 28, 2017. Under these agreements, the Company by higher payments for labor and fringe beneﬁts, increased fuel has the option from time to time to pledge collateral in the form costs, as well as higher payments for purchased services and of cash or cash equivalents, for a minimum term of one month, material. equal to at least the face value of the letters of credit issued. As at December 31, 2014, the Company had letters of credit (a) Pension contributions drawn of $487 million ($481 million as at December 31, 2013) Company contributions to its various deﬁned beneﬁt pension from a total committed amount of $511 million ($503 million as plans are made in accordance with the applicable legislation in at December 31, 2013) by the various banks. As at December 31, Canada and the U.S. and such contributions follow minimum 2014, cash and cash equivalents of $463 million ($448 million as and maximum thresholds as determined by actuarial valuations. at December 31, 2013) were pledged as collateral, and record- Pension contributions made in 2014 and 2013 of $111 million ed as Restricted cash and cash equivalents on the Consolidated and $226 million, respectively, mainly represent contributions Balance Sheet. to the Company’s main pension plan, the CN Pension Plan, for the current service cost as determined under the Company’s Additional information relating to these ﬁnancing sources is pro- current actuarial valuations for funding purposes, and also vided in Note 10 – Long-term debt to the Company’s 2014 Annual include voluntary contributions of $100 million in 2013. In Consolidated Financial Statements. 2015, the Company expects to make total cash contributions of approximately $125 million for all of the Company’s pension plans. See the section of this MD&A entitled Critical account- ing estimates – Pensions and other postretirement beneﬁts for additional information relating to the funding of the Company’s pension plans. Canadian National Railway Company U.S. GAAP 2014 Annual Report 31 Management’s Discussion and Analysis As at December 31, 2014, the Company had $143 million (a) Property additions of accumulated prepayments under the CN Pension Plan which The following table provides the property additions for the years remain available to offset future required solvency deﬁcit pay- ended December 31, 2014 and 2013: ments. The Company expects to use these prepayments to satis- fy a portion of its 2015 required solvency deﬁcit payment. The In millions Year ended December 31, 2014 2013 Company established an irrevocable standby letter of credit in Track and roadway (1) $ 1,604 $ 1,400 2014 with a face amount of approximately $3 million in order to Rolling stock satisfy the solvency deﬁcit payment for the BC Rail Pension Plan. Buildings The Company expects to further subscribe to letters of credit Information technology in 2015 to satisfy the solvency deﬁcit payments for certain of Other its deﬁned beneﬁt pension plans including the CN Pension Plan. Gross property additions Under the CN Pension Plan, considering the prepayments avail- Less: Capital leases (2) able, it is expected that the letters of credit will only be required Property additions 325 104 144 120 286 104 130 97 2,297 2,017 - 44 $ 2,297 $ 1,973 in the third quarter of 2015. The total face amount of the letters of credit is expected to be approximately $90 million at the end of 2015. Additional information relating to the pension plans is pro- vided in Note 12 – Pensions and other postretirement beneﬁts to the Company’s 2014 Annual Consolidated Financial Statements. (1) In both 2014 and 2013, approximately 90% of the Track and roadway property addi- tions were incurred to renew the basic infrastructure. Costs relating to normal repairs and maintenance of Track and roadway properties are expensed as incurred, and amounted to approximately 12% of the Company’s total operating expenses in both 2014 and 2013. (2) During 2013, the Company recorded $44 million in assets it acquired through equip- ment leases for which an equivalent amount was recorded in debt. (b) Income tax payments The Company is required to make scheduled installment pay- ments as prescribed by the tax authorities. In Canada, the Company’s domestic jurisdiction, tax installments in a given year are generally based on the prior year’s taxable income whereas in the U.S., the Company’s predominant foreign jurisdiction, they are based on forecasted taxable income of the current year. In 2014, net income tax payments to Canadian tax authorities (b) Capital expenditure program For 2015, the Company expects to invest approximately $2.6 bil- lion in its capital program, which will be ﬁnanced with cash gen- erated from operations, as outlined below: • $1.3 billion on track infrastructure to continue operating a safe railway and improve the productivity and ﬂuidity of the network; including the replacement of rail, ties, and other track materials, bridge improvements, as well as various were $427 million ($610 million in 2013) and net income tax branch line upgrades; payments to U.S. tax authorities were $295 million ($280 million in 2013). The overall decrease of $168 million was mainly due to a lower ﬁnal payment for the 2013 ﬁscal year, made in February 2014. For the 2015 ﬁscal year, the Company’s net income tax payments are expected to be approximately $950 million. In 2015, U.S. tax payments will reﬂect the Tax Increase Prevention Act of 2014 which extended the allowable 50% accelerated depreciation and the Railroad Track Maintenance Credit until the end of 2014. The Company expects cash from operations and its other sources of ﬁnancing to be sufﬁcient to meet its funding obligations. Investing activities Net cash used in investing activities increased by $324 million in • $500 million on equipment capital expenditures, allowing the Company to tap growth opportunities and improve the quality of the ﬂeet; and in order to handle expected trafﬁc increase and improve operational efﬁciency, CN expects to take delivery of 90 new high-horsepower locomotives; and • $800 million on initiatives to enable growth and drive pro- ductivity, such as additional track infrastructure; investments in yards, intermodal terminals, transload and distribution cen- ters; and on information technology to improve service and operating efﬁciency. Costs associated with the U.S. federal government legisla- tive requirement to implement positive train control (PTC) by December 31, 2015 will amount to approximately US$550 mil- lion, of which approximately US$100 million was spent at the 2014, as a result of higher property additions, partly offset by end of 2014. higher proceeds received from the disposal of property. (c) Disposal of property In 2014, cash inﬂows included proceeds of $76 million before transaction costs, from a transaction with Metrolinx to sell a seg- ment of the Guelph subdivision located between Georgetown and Kitchener, Ontario, together with the rail ﬁxtures and certain passenger agreements and proceeds of $97 million from the 32 2014 Annual Report U.S. GAAP Canadian National Railway Company Management’s Discussion and Analysis disposal of the Deux-Montagnes. In 2013, cash inﬂows included (b) Share repurchase programs proceeds of $52 million from the disposal of the Lakeshore West. The Company may repurchase shares pursuant to a normal course See the section of this MD&A entitled Adjusted performance issuer bid (NCIB) at prevailing market prices plus brokerage fees, measures for additional information relating to these disposals. or such other prices as may be permitted by the Toronto Stock Financing activities Exchange. Under its current NCIB, the Company may repurchase up to 28.0 million common shares between October 24, 2014 Net cash used in ﬁnancing activities increased by $714 million and October 23, 2015. in 2014, mainly driven by a net repayment of commercial paper Previous share repurchase programs allowed for the repur- and higher payments for share repurchases and dividends. chase of up to 30.0 million common shares between October 29, Information about the Company’s debt ﬁnancing activities, share 2013 and October 23, 2014 and up to $1.4 billion in common repurchase programs, and dividends paid is as follows: shares, not to exceed 36.0 million common shares, between (a) Debt ﬁnancing activities October 29, 2012 and October 28, 2013, pursuant to the NCIBs. The following table provides the information related to the Debt ﬁnancing activities in 2014 included the following trans- share repurchase programs for the years ended December 31, actions: • On January 15, 2014, repaid US$325 million 4.95% Notes due 2014 upon maturity; 2014, 2013 and 2012: In millions, except per share data • On February 18, 2014, issued $250 million 2.75% Notes due Year ended December 31, 2014 2013 Total 2012 program 2021, in the Canadian capital markets, which resulted in net October 2014 – October 2015 program proceeds of $247 million; Number of common shares (1) 5.6 • On November 14, 2014, issued US$250 million (C$284 mil- Weighted-average price per share (2) $ 73.29 lion) Floating Rate Notes due 2017, and US$350 million Amount of repurchase $ 410 N/A N/A N/A N/A 5.6 N/A $ 73.29 N/A $ 410 (C$398 million) 2.95% Notes due 2024, in the U.S. capital markets, which resulted in net proceeds of US$593 million (C$675 million); and • Net repayment of commercial paper of $277 million. Debt ﬁnancing activities in 2013 included the following trans- actions: • On March 12, 2013, through a wholly-owned subsidiary, re- purchased 85% of the 4.40% Notes due 2013, with a carry- October 2013 – October 2014 program Number of common shares (1) 16.8 5.5 N/A 22.3 Weighted-average price per share (2) $ 65.40 $ 55.25 N/A $ 62.88 Amount of repurchase $ 1,095 $ 305 N/A $ 1,400 October 2012 – October 2013 program Number of common shares (1) N/A 22.1 7.2 29.3 Weighted-average price per share (2) N/A $ 49.51 $ 42.11 $ 47.68 Amount of repurchase N/A $ 1,095 $ 305 $ 1,400 ing value of US$340 million pursuant to a tender offer for Total for the year a total cost of US$341 million, including consent payments. The remaining 15% of the 4.40% Notes with a carrying value of US$60 million were repaid upon maturity; • On November 7, 2013, issued US$350 million (C$365 mil- lion) Floating Rate Notes due 2015, and US$250 million (C$260 million) 4.50% Notes due 2043, in the U.S. capital markets, which resulted in net proceeds of US$592 million (C$617 million); and • Net issuance of commercial paper of $268 million. Cash obtained from the issuance of new debt in 2014 and 2013 was used for general corporate purposes, including the redemp- tion and reﬁnancing of outstanding indebtedness and share repurchases. Additional information relating to the Company’s outstanding debt securities is provided in Note 10 – Long-term debt to the Company’s 2014 Annual Consolidated Financial Statements. Number of common shares (1) 22.4 27.6 33.8 (3) Weighted-average price per share (2) $ 67.38 $ 50.65 $ 41.36 (3) Amount of repurchase $ 1,505 $ 1,400 $ 1,400 (3) (1) Includes common shares purchased in the ﬁrst and fourth quarters of 2014, 2013 and 2012 pursuant to private agreements between the Company and arm’s-length third-party sellers. (2) Includes brokerage fees. (3) Includes repurchases from the October 2011 – October 2012 program, which consists of 26.6 million common shares, a weighted-average price per share of $41.16 and an amount of repurchase of $1,095 million. (c) Dividends paid During 2014, the Company paid quarterly dividends of $0.2500 per share amounting to $818 million, compared to $724 mil- lion, at the rate of $0.2150 per share, in 2013. For 2015, the Company’s Board of Directors approved an increase of 25% to the quarterly dividend to common shareholders, from $0.2500 per share in 2014 to $0.3125 per share in 2015. Canadian National Railway Company U.S. GAAP 2014 Annual Report 33 Management’s Discussion and Analysis Contractual obligations In the normal course of business, the Company incurs contractual obligations. The following table sets forth the Company’s contractual obligations for the following items as at December 31, 2014: In millions Debt obligations (1) Interest on debt obligations (2) Capital lease obligations (3) Operating lease obligations (4) Purchase obligations (5) Pension contributions (6) Other long-term liabilities reﬂected on the balance sheet (7) Total 2015 2016 2017 2018 2019 2020 & thereafter $ 7,739 $ 456 $ 634 $ 577 $ 606 $ 636 $ 4,830 5,571 815 712 1,054 1,005 755 366 107 155 719 87 64 355 343 116 316 228 39 342 164 94 14 230 54 313 15 77 3 230 40 270 3,925 15 56 - 230 37 171 214 2 - 521 Total contractual obligations $ 17,651 $ 1,954 $ 2,031 $ 1,475 $ 1,284 $ 1,244 $ 9,663 (1) Presented net of unamortized discounts, of which $833 million relates to non-interest bearing Notes due in 2094, and excludes capital lease obligations of $670 million which are included in “Capital lease obligations“. Also includes $50 million outstanding under the accounts receivable securitization program. (2) Interest payments on the ﬂoating rate notes are calculated based on the three-month London Interbank Offered Rate effective as at December 31, 2014. (3) Includes $670 million of minimum lease payments and $145 million of imputed interest at rates ranging from 0.7% to 8.5%. (4) Includes minimum rental payments for operating leases having initial non-cancelable lease terms of one year or more. The Company also has operating lease agreements for its automotive ﬂeet with one-year non-cancelable terms for which its practice is to renew monthly thereafter. The estimated annual rental payments for such leases are approximately $25 million and generally extend over ﬁve years. (5) Includes commitments for railroad ties, rail, freight cars, locomotives and other equipment and services, and outstanding information technology service contracts and licenses. (6) The Company’s pension contributions are based on actuarial funding valuations. The estimated minimum required payments for pension contributions, excluding current service cost, are based on actuarial funding valuations as at December 31, 2013 that were ﬁled in June 2014. Voluntary contributions can be treated as a prepayment against the Company’s required spe- cial solvency deﬁcit payments. As at December 31, 2014, the Company had $143 million of accumulated prepayments under the CN Pension Plan which remain available to offset future required solvency deﬁcit payments. The Company expects to use these prepayments to satisfy a portion of its 2015 required solvency deﬁcit payment. Actuarial valuations are generally required annually and as such, future payments for pension contributions are subject to re-evaluation on an annual basis. See the sections of this MD&A entitled Business risks – Pension funding volatility and Critical accounting estimates – Pensions and other postretirement beneﬁts. (7) Includes expected payments for workers’ compensation, workforce reductions, postretirement beneﬁts other than pensions, net unrecognized tax beneﬁts and environmental liabilities that have been classiﬁed as contractual settlement agreements. For 2015 and the foreseeable future, the Company expects cash ﬂow from operations and from its various sources of ﬁnancing to be sufﬁcient to meet its debt repayments and future obligations, and to fund anticipated capital expenditures. Free cash ﬂow The Company deﬁnes its free cash ﬂow measure as the dif- Free cash ﬂow does not have any standardized meaning pre- ference between net cash provided by operating activities and scribed by GAAP and therefore, may not be comparable to net cash used in investing activities; adjusted for changes in similar measures presented by other companies. The Company restricted cash and cash equivalents and the impact of major believes that free cash ﬂow is a useful measure of performance acquisitions, if any. as it demonstrates the Company’s ability to generate cash for debt obligations and for discretionary uses such as payment of dividends and strategic opportunities. In millions Year ended December 31, 2014 2013 Net cash provided by operating activities $ 4,381 $ 3,548 Net cash used in investing activities (2,176) (1,852) Net cash provided before ﬁnancing activities 2,205 1,696 Adjustment: Change in restricted cash and cash equivalents 15 (73) Free cash ﬂow $ 2,220 $ 1,623 34 2014 Annual Report U.S. GAAP Canadian National Railway Company Management’s Discussion and Analysis Credit measures Off balance sheet arrangements Management believes that the adjusted debt-to-total capitalization Guarantees and indemniﬁcations ratio is a useful credit measure that aims to show the true leverage of In the normal course of business, the Company, including certain of the Company. Similarly, the adjusted debt-to-adjusted earnings be- its subsidiaries, enters into agreements that may involve providing fore interest, income taxes, depreciation and amortization (EBITDA) guarantees or indemniﬁcations to third parties and others, which multiple is another useful credit measure because it reﬂects the may extend beyond the term of the agreements. These include, but Company’s ability to service its debt. The Company excludes Other are not limited to, residual value guarantees on operating leases, income in the calculation of EBITDA. However, since these measures standby letters of credit, surety and other bonds, and indemniﬁ- do not have any standardized meaning prescribed by GAAP, they cations that are customary for the type of transaction or for the may not be comparable to similar measures presented by other railway business. As at December 31, 2014, the Company had not companies and, as such, should not be considered in isolation. recorded a liability with respect to guarantees and indemniﬁcations. Adjusted debt-to-total capitalization ratio December 31, 2014 2013 Debt-to-total capitalization ratio (1) 38.4% 37.7% Add: Impact of present value of operating lease commitments (2) 1.7% 1.7% Adjusted debt-to-total capitalization ratio 40.1% 39.4% Adjusted debt-to-adjusted EBITDA In millions, unless otherwise indicated The nature of these guarantees or indemniﬁcations, the maximum potential amount of future payments, the carrying amount of the liability, if any, and the nature of any recourse provisions are dis- closed in Note 16 – Major commitments and contingencies to the Company’s 2014 Annual Consolidated Financial Statements. Financial instruments Risk management In the normal course of business, the Company is exposed to various ﬁnancial risks from its use of ﬁnancial instruments, such as credit risk, liquidity risk, and also market risks such as foreign currency Twelve months ended December 31, 2014 2013 risk, interest rate risk and commodity price risk. To manage these Debt $ 8,409 $ 7,840 Add: Present value of operating lease commitments (2) 607 570 9,016 8,410 Adjusted debt Operating income risks, the Company follows a ﬁnancial risk management frame- work, which is monitored and approved by the Company’s Finance Committee, with a goal of maintaining a strong balance sheet, optimizing earnings per share and free cash ﬂow, ﬁnancing its oper- 4,624 3,873 ations at an optimal cost of capital and preserving its liquidity. Add: Depreciation and amortization 1,050 980 The Company has limited involvement with derivative ﬁnancial EBITDA (excluding Other income) 5,674 4,853 instruments in the management of its risks and does not hold or Add: Deemed interest on operating leases 28 28 use them for trading or speculative purposes. As at December 31, Adjusted EBITDA $ 5,702 $ 4,881 2014, the Company had outstanding foreign exchange forward Adjusted debt-to-adjusted EBITDA 1.58 times 1.72 times contracts of US$350 million (US$325 million as at December 31, (1) Debt-to-total capitalization is calculated as total long-term debt plus current portion of long-term debt, divided by the sum of total debt plus total shareholders’ equity. (2) The operating lease commitments have been discounted using the Company’s implicit interest rate for each of the periods presented. The increase in the Company’s adjusted debt-to-total capitaliza- tion ratio at December 31, 2014, as compared to 2013, was main- 2013). As at December 31, 2014 and 2013, the Company did not have any other signiﬁcant derivative ﬁnancial instruments out- standing. Additional information relating to the Company’s ﬁnan- cial instruments is provided in Note 17 – Financial instruments to the Company’s 2014 Annual Consolidated Financial Statements. ly due to an increased debt level and a weaker Canadian-to-US Credit risk dollar foreign exchange rate in effect at the balance sheet date. The Company’s higher operating income earned during 2014, partly offset by an increased debt level as at December 31, 2014, resulted in a decrease in the Company’s adjusted debt-to-adjusted EBITDA multiple, as compared to 2013. All forward-looking information provided in this section is subject to risks and uncertainties and is based on assumptions about events and developments that may not materialize or that may be offset entirely or partially by other events and developments. See the section of this MD&A entitled Forward-looking statements for a discussion of as- sumptions and risk factors affecting such forward-looking statements. Credit risk arises from cash and temporary investments, accounts receivable and derivative ﬁnancial instruments. To manage credit risk associated with cash and temporary investments, the Company places these ﬁnancial assets with governments, major ﬁnancial institutions, or other creditworthy counterparties; and performs ongoing reviews of these entities. To manage credit risk associated with accounts receivable, the Company reviews the credit history of each new customer, monitors the ﬁnancial condition and credit limits of its custom- ers, and keeps the average daily sales outstanding within an ac- ceptable range. The Company works with customers to ensure timely payments, and in certain cases, requires ﬁnancial security, Canadian National Railway Company U.S. GAAP 2014 Annual Report 35 Management’s Discussion and Analysis including letters of credit. Although the Company believes there currency risk. Changes in the fair value of forward contracts, re- are no signiﬁcant concentrations of customer credit risk, economic sulting from changes in foreign exchange rates, are recognized conditions can affect the Company’s customers and can result in in the Consolidated Statement of Income as they occur. For the an increase to the Company’s credit risk and exposure to business year ended December 31, 2014, a gain of $9 million ($6 million failures of its customers. A widespread deterioration of customer in 2013), before tax, related to the fair value of the foreign ex- credit and business failures of customers could have a material change forward contracts with a notional value of US$350 million adverse effect on the Company’s results of operations, ﬁnancial (US$325 million as at December 31, 2013), was recorded in Other position or liquidity. The Company considers the risk due to the income on the Consolidated Statement of Income. possible non-performance by its customers to be remote. The Company has limited involvement with derivative ﬁnan- Interest rate risk cial instruments, however from time to time, it may enter into The Company is exposed to interest rate risk, which is the risk that derivative ﬁnancial instruments to manage its exposure to interest the fair value or future cash ﬂows of a ﬁnancial instrument will rates or foreign currency exchange rates. To manage the counter- vary as a result of changes in market interest rates. Such risk exists party risk associated with the use of derivative ﬁnancial instru- in relation to the Company’s long-term debt. The Company mainly ments, the Company enters into contracts with major ﬁnancial issues ﬁxed-rate debt, which exposes the Company to variability institutions that have been accorded investment grade ratings. in the fair value of the debt. The Company also issues debt with Though the Company is exposed to potential credit losses due to variable interest rates, which exposes the Company to variability in non-performance of these counterparties, the Company consid- interest expense. The estimated annual impact on net income of a ers this risk remote. Liquidity risk year-over-year one-percent change in the interest rate on ﬂoating rate debt, is in the range of $10 million to $15 million. To manage interest rate risk, the Company manages its Liquidity risk is the risk that sufﬁcient funds will not be available borrowings in line with liquidity needs, maturity schedule, and to satisfy ﬁnancial obligations as they come due. In addition to currency and interest rate proﬁle; and in anticipation of future cash generated from operations, which represents its princi- debt issuances, the Company may enter into forward rate agree- pal source of liquidity, the Company manages liquidity risk by ments. The Company does not currently hold any signiﬁcant aligning other external sources of funds which can be obtained derivative ﬁnancial instruments to manage its interest rate risk. upon short notice, such as a committed revolving credit facility, As at December 31, 2014, Accumulated other comprehensive loss commercial paper, and an accounts receivable securitization included an unamortized gain of $7 million, $5 million after-tax program. The Company believes that its investment grade credit ($8 million, $6 million after-tax as at December 31, 2013) relating ratings contribute to reasonable access to capital markets. See to treasury lock transactions settled in a prior year, which is being the section of this MD&A entitled Liquidity and capital resources amortized over the term of the related debt. for additional information relating to the Company’s available ﬁnancing sources. Foreign currency risk Commodity price risk The Company is exposed to commodity price risk related to pur- chases of fuel and the potential reduction in net income due to The Company is exposed to foreign currency risk because it increases in the price of diesel. Fuel prices are impacted by geo- conducts its business in both Canada and the U.S. The estimated political events, changes in the economy or supply disruptions. annual impact on net income of a year-over-year one-cent change Fuel shortages can occur due to reﬁnery disruptions, production in the Canadian dollar relative to the US dollar is in the range of quota restrictions, climate, and labor and political instability. $15 million to $20 million. The Company manages fuel price risk by offsetting the im- The Company manages foreign currency risk by designating pact of rising fuel prices with the Company’s fuel surcharge pro- US dollar-denominated long-term debt of the parent company as gram. The surcharge applied to customers is determined in the a foreign currency hedge of its net investment in U.S. subsidiaries. second calendar month prior to the month in which it is applied, As a result, from the dates of designation, foreign exchange gains and is calculated using the average monthly price of West-Texas and losses on translation of the Company’s US dollar-denominated Intermediate crude oil (WTI) for revenue-based tariffs and On- long-term debt are recorded in Accumulated other comprehen- Highway Diesel (OHD) for mileage-based tariffs. The Company sive loss, which minimizes volatility of earnings resulting from the also enters into agreements with fuel suppliers which allow but do conversion of US dollar-denominated long-term debt into the not require the Company to purchase approximately 95% of its Canadian dollar. estimated 2015 volume, 85% of its anticipated 2016 volume and While the Company does not hold or issue derivative ﬁ- 20% of its anticipated 2017 volume at market prices prevailing on nancial instruments for trading or speculative purposes, it the date of the purchase. may enter into foreign exchange contracts to manage foreign 36 2014 Annual Report U.S. GAAP Canadian National Railway Company Management’s Discussion and Analysis While the Company’s fuel surcharge program provides effective Outstanding share data coverage, residual exposure remains given that fuel price risk can- As at February 2, 2015, the Company had 808.8 million common not be completely managed due to timing and given the volatility shares outstanding, and 8.2 million stock options, 1.7 million in the market. As such, the Company may enter into derivative deferred share units and 1.4 million performance share units out- instruments to manage such risk when considered appropriate. standing under its equity settled stock-based compensation plans. Fair value of ﬁnancial instruments Critical accounting estimates The Company uses the following methods and assumptions to The preparation of ﬁnancial statements in conformity with U.S. estimate the fair value of each class of ﬁnancial instruments for GAAP requires management to make estimates and assumptions which the carrying amounts are included in the Consolidated that affect the reported amounts of revenues, expenses, assets Balance Sheet under the following captions: and liabilities, and the disclosure of contingent assets and lia- bilities at the date of the ﬁnancial statements. On an ongoing Cash and cash equivalents, Restricted cash and cash equiva- basis, management reviews its estimates based upon available lents, Accounts receivable, Other current assets, Accounts information. Actual results could differ from these estimates. The payable and other Company’s policies for income taxes, depreciation, pensions and The carrying amounts approximate fair value because of the other postretirement beneﬁts, personal injury and other claims short maturity of these instruments. Cash and cash equivalents and environmental matters, require management’s more signiﬁ- and Restricted cash and cash equivalents include highly liquid in- cant judgments and estimates in the preparation of the Company’s vestments purchased three months or less from maturity and are consolidated ﬁnancial statements and, as such, are considered to classiﬁed as Level 1. Accounts receivable, Other current assets, and be critical. The following information should be read in conjunc- Accounts payable and other are classiﬁed as Level 2 as they may tion with the Company’s 2014 Annual Consolidated Financial not be priced using quoted prices, but rather determined from Statements and Notes thereto. market observable information. Intangible and other assets Management discusses the development and selection of the Company’s critical accounting estimates with the Audit Committee of the Company’s Board of Directors, and the Audit Committee Included in Intangible and other assets are equity investments for has reviewed the Company’s related disclosures. which the carrying value approximates the fair value, with the exception of certain cost investments for which the fair value is Income taxes estimated based on the Company’s proportionate share of the The Company follows the asset and liability method of accounting underlying net assets. Investments are classiﬁed as Level 3 as their for income taxes. Under the asset and liability method, the change fair value is based on signiﬁcant unobservable inputs. in the net deferred income tax asset or liability is included in the Debt computation of Net income or Other comprehensive income (loss). Deferred income tax assets and liabilities are measured using en- The fair value of the Company’s debt is estimated based on the acted income tax rates expected to apply to taxable income in the quoted market prices for the same or similar debt instruments, as years in which temporary differences are expected to be recovered well as discounted cash ﬂows using current interest rates for debt or settled. As a result, a projection of taxable income is required with similar terms, company rating, and remaining maturity. The for those years, as well as an assumption of the ultimate recovery/ Company’s debt is classiﬁed as Level 2. settlement period for temporary differences. The projection of fu- ture taxable income is based on management’s best estimate and As at December 31, 2014, investments have a carrying value may vary from actual taxable income. of $58 million and a fair value of approximately $183 million On an annual basis, the Company assesses the need to estab- (carrying value of $57 million and fair value of $164 million as at lish a valuation allowance for its deferred income tax assets, and December 31, 2013). if it is deemed more likely than not that its deferred income tax As at December 31, 2014, the long-term debt has a carry- assets will not be realized, a valuation allowance is recorded. The ing value of $8,409 million and a fair value of approximately ultimate realization of deferred income tax assets is dependent $9,767 million (carrying value of $7,840 million and fair value of upon the generation of future taxable income during the per- $8,683 million as at December 31, 2013). iods in which those temporary differences become deductible. Additional information related to the fair value ﬁnancial instru- Management considers the scheduled reversals of deferred ments, including a description of the fair value hierarchy which income tax liabilities, the available carryback and carryforward deﬁnes the criteria used to classify ﬁnancial instruments as Level 1, periods, and projected future taxable income in making this Level 2 or Level 3 is provided in Note 17 – Financial instruments to assessment. As at December 31, 2014, in order to fully realize the Company’s 2014 Annual Consolidated Financial Statements. all of the deferred income tax assets, the Company will need to Canadian National Railway Company U.S. GAAP 2014 Annual Report 37 Management’s Discussion and Analysis generate future taxable income of approximately $1.7 billion and, budget changes and/or changes in income tax laws. As a result, based upon the level of historical taxable income and projections a change in the timing and/or the income tax rate at which the of future taxable income over the periods in which the deferred components will reverse, could materially affect deferred income income tax assets are deductible, management believes it is more tax expense as recorded in the Company’s results of operations. A likely than not that the Company will realize the beneﬁts of these one-percentage-point change in the Company’s reported effective deductible differences. Management has assessed the impacts of income tax rate would have the effect of changing the income tax the current economic environment and concluded there are no expense by $44 million in 2014. signiﬁcant impacts to its assertions for the realization of deferred From time to time, the federal, provincial, and state govern- income tax assets. ments enact new corporate income tax rates resulting in either In addition, Canadian, or domestic, tax rules and regulations, lower or higher tax liabilities. Included in the 2013 ﬁgure was a as well as those relating to foreign jurisdictions, are subject to $24 million income tax expense resulting from the enactment of interpretation and require judgment by the Company that may higher provincial corporate income tax rates in Canada. be challenged by the taxation authorities upon audit of the ﬁled For the year ended December 31, 2014, the Company record- income tax returns. Tax beneﬁts are recognized if it is more likely ed total income tax expense of $1,193 million, of which $416 mil- than not that the tax position will be sustained on examination lion was a deferred income tax expense which included an income by the taxation authorities. As at December 31, 2014, the total tax recovery of $18 million resulting from a change in the esti- amount of gross unrecognized tax beneﬁts was $35 million be- mate of the deferred income tax liability related to properties. fore considering tax treaties and other arrangements between For the year ended December 31, 2013, the Company recorded taxation authorities. The amount of net unrecognized tax bene- total income tax expense of $977 million, of which $331 million ﬁts as at December 31, 2014 was $29 million. If recognized, all was a deferred income tax expense and included a net income of the net unrecognized tax beneﬁts as at December 31, 2014 tax recovery of $7 million which consisted of a $15 million in- would affect the effective tax rate. The Company believes that it come tax recovery from the recognition of U.S. state income tax is reasonably possible that approximately $10 million of the net losses and a $16 million income tax recovery from a revision of unrecognized tax beneﬁts as at December 31, 2014 related to the apportionment of U.S. state income taxes, which were partly various federal, state, and provincial income tax matters, each of offset by a combined $24 million income tax expense resulting which are individually insigniﬁcant, may be recognized over the from the enactment of higher provincial corporate income tax next twelve months as a result of settlements and a lapse of the rates. For the year ended December 31, 2012, the Company applicable statute of limitations. recorded total income tax expense of $978 million, of which In Canada, the Company’s federal and provincial income tax re- $451 million was a deferred income tax expense and included turns ﬁled for the years 2008 to 2013 remain subject to examina- a net income tax expense of $28 million, which consisted of a tion by the taxation authorities. An examination of the Company’s $35 million income tax expense resulting from the enactment of federal income tax returns for the years 2010 and 2011 is currently higher provincial corporate income tax rates that was partly offset in progress and is expected to be completed during 2015. In the by a $7 million income tax recovery resulting from the recapit- U.S., the federal income tax returns ﬁled for the years 2007 to alization of a foreign investment. The Company’s net deferred 2013 remain subject to examination by the taxation authorities, income tax liability as at December 31, 2014 was $6,834 million and the state income tax returns ﬁled for the years 2009 to 2013 ($6,463 million as at December 31, 2013). Additional disclosures remain subject to examination by the taxation authorities. An are provided in Note 4 – Income taxes to the Company’s 2014 examination of the federal income tax returns for the years 2007 Annual Consolidated Financial Statements. to 2011 is currently in progress. Examinations of certain state in- come tax returns by the state taxation authorities are currently Depreciation in progress. The Company does not anticipate any signiﬁcant im- Properties are carried at cost less accumulated depreciation in- pacts to its results of operations or ﬁnancial position as a result of cluding asset impairment write-downs. The cost of properties, the ﬁnal resolutions of such matters. including those under capital leases, net of asset impairment The Company’s deferred income tax assets are mainly com- write-downs, is depreciated on a straight-line basis over their posed of temporary differences related to the pension liability, estimated service lives, measured in years, except for rail which accruals for personal injury claims and other reserves, other is measured in millions of gross ton miles. The Company follows post retirement beneﬁts liability, and net operating losses and tax the group method of depreciation whereby a single composite credit carryforwards. The majority of these accruals will be paid depreciation rate is applied to the gross investment in a class out over the next ﬁve years. The Company’s deferred income tax of similar assets, despite small differences in the service life or liabilities are mainly composed of temporary differences related salvage value of individual property units within the same asset to properties. The reversal of temporary differences is expected at class. The Company uses approximately 40 different depreciable future-enacted income tax rates which could change due to ﬁscal asset classes. 38 2014 Annual Report U.S. GAAP Canadian National Railway Company Management’s Discussion and Analysis For all depreciable assets, the depreciation rate is based on Pensions and other postretirement beneﬁts the estimated service lives of the assets. Assessing the reason- The Company’s plans have a measurement date of December 31. ableness of the estimated service lives of properties requires The following table provides the Company’s pension asset, judgment and is based on currently available information, includ- pension liability and other postretirement beneﬁts liability as at ing periodic depreciation studies conducted by the Company. December 31, 2014, and December 31, 2013: The Company’s U.S. properties are subject to comprehensive depreciation studies as required by the Surface Transportation In millions December 31, 2014 2013 Board (STB) and are conducted by external experts. Depreciation Pension asset studies for Canadian properties are not required by regulation Pension liability and are conducted internally. Studies are performed on speciﬁc Other postretirement beneﬁts liability $ 882 $ 1,662 400 267 303 256 asset groups on a periodic basis. Changes in the estimated ser- vice lives of the assets and their related composite depreciation rates are implemented prospectively. The studies consider, among other factors, the analysis of historical retirement data using recognized life analysis tech- niques, and the forecasting of asset life characteristics. Changes in circumstances, such as technological advances, changes to the Company’s business strategy, changes in the Company’s capital strategy or changes in regulations can result in the actual service lives differing from the Company’s estimates. A change in the remaining service life of a group of assets, or their estimated net salvage value, will affect the depreciation rate used to amortize the group of assets and thus affect depreciation expense as reported in the Company’s results of operations. A change of one year in the composite service life of the Company’s ﬁxed asset base would impact annual depreciation expense by approximately $28 million. Depreciation studies are a means of ensuring that the assump- tions used to estimate the service lives of particular asset groups are still valid and where they are not, they serve as the basis to establish the new depreciation rates to be used on a prospective basis. In the fourth quarter of 2014, the Company completed depreciation studies for equipment properties and as a result, the Company changed the estimated service lives for various types of equipment assets and their related composite depreciation rates. These depreciation studies resulted in an annualized increase to depreciation expense of approximately $17 million. In 2014, the Company recorded total depreciation expense of $1,050 million ($979 million in 2013 and $923 million in 2012). As at December 31, 2014, the Company had Properties of $28,514 million, net of accumulated depreciation of $11,195 mil- lion ($26,227 million as at December 31, 2013, net of accumu- lated depreciation of $10,579 million). Additional disclosures are provided in Note 7 – Properties, to the Company’s 2014 Annual Consolidated Financial Statements. U.S. GAAP requires the use of historical cost as the basis of re- porting in ﬁnancial statements. As a result, the cumulative effect of inﬂation, which has signiﬁcantly increased asset replacement costs for capital-intensive companies such as CN, is not reﬂected in oper- ating expenses. Depreciation charges on an inﬂation-adjusted basis, assuming that all operating assets are replaced at current price levels, would be substantially greater than historically reported amounts. The descriptions in the following paragraphs pertaining to pensions relate generally to the Company’s main pension plan, the CN Pension Plan, unless otherwise speciﬁed. Calculation of net periodic beneﬁt cost (income) The Company accounts for net periodic beneﬁt cost for pensions and other postretirement beneﬁts as required by FASB ASC 715, Compensation – Retirement Beneﬁts. Under the standard, as- sumptions are made regarding the valuation of beneﬁt obliga- tions and performance of plan assets. In the calculation of net periodic beneﬁt cost, the standard allows for a gradual recog- nition of changes in beneﬁt obligations and fund performance over the expected average remaining service life of the employee group covered by the plans. In accounting for pensions and other postretirement beneﬁts, assumptions are required for, among other things, the discount rate, the expected long-term rate of return on plan assets, the rate of compensation increase, health care cost trend rates, mor- tality rates, employee early retirements, terminations and disabil- ity. Changes in these assumptions result in actuarial gains or loss- es, which are recognized in Other comprehensive income (loss). The Company amortizes these gains or losses into net periodic beneﬁt cost over the expected average remaining service life of the employee group covered by the plans only to the extent that the unrecognized net actuarial gains and losses are in excess of the corridor threshold, which is calculated as 10% of the greater of the beginning-of-year balances of the projected beneﬁt obli- gation or market-related value of plan assets. The Company’s net periodic beneﬁt cost for future periods is dependent on demographic experience, economic conditions and investment performance. Recent demographic experience has revealed no material net gains or losses on termination, retirement, disability and mortality. Experience with respect to economic conditions and investment performance is further discussed herein. Canadian National Railway Company U.S. GAAP 2014 Annual Report 39 Management’s Discussion and Analysis For the years ended December 31, 2014, 2013 and 2012, the a net actuarial loss of $1,114 million on its pension plans, in- consolidated net periodic beneﬁt cost (income) for pensions and creasing the net actuarial loss recognized in Accumulated other other postretirement beneﬁts were as follows: comprehensive loss to $2,502 million ($1,515 million in 2013). In millions Year ended December 31, 2014 2013 2012 Net periodic beneﬁt cost (income) for pensions $ (4) $ 90 $ (9) Net periodic beneﬁt cost for other postretirement beneﬁts 12 14 14 The increase in the net actuarial loss was primarily due to the negative liability experience resulting from the decrease in the discount rate from 4.73% to 3.87%, partly offset by the differ- ence in the actual and expected return on plan assets for the year ended December 31, 2014. For the year ended December 31, 2014, a 0.25% decrease in As at December 31, 2014 and 2013, the projected pension the 3.87% discount rate used to determine the projected beneﬁt beneﬁt obligation and accumulated other postretirement beneﬁt obligation would have resulted in a decrease of approximately obligation were as follows: In millions December 31, 2014 2013 $490 million to the funded status for pensions and would result in an increase of approximately $30 million to the 2015 net per- iodic beneﬁt cost. A 0.25% increase in the discount rate would Projected pension beneﬁt obligation $ 17,279 $ 15,510 have resulted in an increase of approximately $475 million to Accumulated other postretirement beneﬁt obligation 267 256 the funded status for pensions and would result in a decrease of approximately $30 million to the 2015 net periodic beneﬁt cost. Discount rate assumption The Company’s discount rate assumption, which is set annually Expected long-term rate of return assumption at the end of each year, is used to determine the projected bene- To develop its expected long-term rate of return assumption used ﬁt obligation at the end of the year and the net periodic beneﬁt in the calculation of net periodic beneﬁt cost applicable to the cost for the following year. The discount rate is used to measure market-related value of assets, the Company considers multiple the single amount that, if invested at the measurement date in a factors. The expected long-term rate of return is determined portfolio of high-quality debt instruments with a rating of AA or based on expected future performance for each asset class and is better, would provide the necessary cash ﬂows to pay for pension weighted based on the current asset portfolio mix. Consideration beneﬁts as they become due. The discount rate is determined is taken of the historical performance, the premium return gener- by management with the aid of third-party actuaries. For the ated from an actively managed portfolio, as well as current and Canadian pension and other postretirement beneﬁt plans, fu- future anticipated asset allocations, economic developments, in- ture expected beneﬁt payments at each measurement date are ﬂation rates and administrative expenses. Based on these factors, discounted using spot rates from a derived AA corporate bond the rate is determined by the Company. For 2014, the Company yield curve. The derived curve is based on observed rates for used a long-term rate of return assumption of 7.00% on the AA corporate bonds with short-term maturities and a projected market-related value of plan assets to compute net periodic AA corporate curve for longer-term maturities based on spreads beneﬁt cost. For 2015, the Company will maintain the expected between observed AA corporate bonds and AA provincial bonds. long-term rate of return on plan assets at 7.00% to reﬂect The derived curve is expected to generate cash ﬂows that match management’s current view of long-term investment returns. The the estimated future beneﬁt payments of the plans as the bond Company has elected to use a market-related value of assets, rate for each maturity year is applied to the plans’ correspond- whereby realized and unrealized gains/losses and appreciation/ ing expected beneﬁt payments of that year. A discount rate of depreciation in the value of the investments are recognized over 3.87%, based on bond yields prevailing at December 31, 2014 a period of ﬁve years, while investment income is recognized (4.73% at December 31, 2013) was considered appropriate by immediately. If the Company had elected to use the market value the Company to match the approximately 11-year average dur- of assets, which for the CN Pension Plan at December 31, 2014 ation of estimated future beneﬁt payments. The current estimate was above the market-related value of assets by $1,850 million, for the expected average remaining service life of the employee the projected net periodic beneﬁt cost for 2015 would decrease group covered by the plans is approximately 11 years. by approximately $295 million. The Company amortizes net actuarial gains and losses over The assets of the Company’s various plans are held in sep- the expected average remaining service life of the employee arate trust funds (“Trusts”) which are diversiﬁed by asset type, group covered by the plans, only to the extent they are in excess country and investment strategies. Each year, the CN Board of the corridor threshold. For the year ended December 31, 2014, of Directors reviews and conﬁrms or amends the Statement the Company amortized $124 million related to the accumulated of Investment Policies and Procedures (SIPP) which includes actuarial losses of its pension plans as part of net periodic beneﬁt the plans’ long-term asset mix and related benchmark indices cost. The Company also recognized $3 million of actuarial losses (“Policy”). This Policy is based on a long-term forward-looking related to settlements in its various pension plans, and recorded view of the world economy, the dynamics of the plans’ beneﬁt 40 2014 Annual Report U.S. GAAP Canadian National Railway Company Management’s Discussion and Analysis liabilities, the market return expectations of each asset class and Plan asset allocation the current state of ﬁnancial markets. The target long-term asset Based on the fair value of the assets held as at December 31, mix in 2014 was: 3% cash and short-term investments, 37% 2014, the assets of the Company’s various plans are comprised of bonds and mortgages, 45% equities, 4% real estate, 7% oil and 3% in cash and short-term investments, 29% in bonds and mort- gas and 4% infrastructure investments. gages, 39% in equities, 2% in real estate assets, 8% in oil and gas, Annually, the CN Investment Division (“Investment Manager”), 5% in infrastructure, 10% in absolute return investments, and a division of the Company created to invest and administer 4% in risk-based allocation investments. See Note 12 – Pensions the assets of the plans, proposes a short-term asset mix target and other postretirement beneﬁts to the Company’s 2014 Annual (“Strategy”) for the coming year, which is expected to differ Consolidated Financial Statements for information on the fair from the Policy, because of current economic and market condi- value measurements of such assets. tions and expectations. The Investment Committee of the Board A signiﬁcant portion of the plans’ assets are invested in publicly (“Committee”) regularly compares the actual asset mix to the traded equity securities whose return is primarily driven by stock Policy and Strategy and compares the actual performance of the market performance. Debt securities also account for a signiﬁcant Company’s pension plans to the performance of the benchmark portion of the plans’ investments and provide a partial offset to indices. the variation in the pension beneﬁt obligation that is driven by The Committee’s approval is required for all major invest- changes in the discount rate. The funded status of the plan ﬂuc- ments in illiquid securities. The SIPP allows for the use of deriv- tuates with market conditions and impacts funding requirements. ative ﬁnancial instruments to implement strategies or to hedge The Company will continue to make contributions to the pension or adjust existing or anticipated exposures. The SIPP prohibits in- plans that as a minimum meet pension legislative requirements. vestments in securities of the Company or its subsidiaries. During the last 10 years ended December 31, 2014, the CN Pension Plan Rate of compensation increase and health care cost trend rate earned an annual average rate of return of 7.41%. The rate of compensation increase is determined by the Company The actual, market-related value, and expected rates of return based upon its long-term plans for such increases. For 2014, a on plan assets for the last ﬁve years were as follows: rate of compensation increase of 3% was used to determine the 2014 2013 2012 2011 2010 projected beneﬁt obligation and the net periodic beneﬁt cost. For postretirement beneﬁts other than pensions, the Company Actual 10.1% 11.2% Market-related value 7.6% 7.3% 7.7% 2.3% 0.3% 3.0% 8.7% 4.8% reviews external data and its own historical trends for health care costs to determine the health care cost trend rates. For measurement pur- Expected 7.00% 7.00% 7.25% 7.50% 7.75% poses, the projected health care cost trend rate for prescription drugs The Company’s expected long-term rate of return on plan assets reﬂects management’s view of long-term investment re- turns and the effect of a 1% variation in such rate of return would result in a change to the net periodic beneﬁt cost of approximately $90 million. Management’s assumption of the ex- pected long-term rate of return is subject to risks and uncertain- ties that could cause the actual rate of return to differ materially from management’s assumption. There can be no assurance that the plan assets will be able to earn the expected long-term rate of return on plan assets. Net periodic beneﬁt cost for pensions for 2015 In 2015, the Company expects a net periodic beneﬁt cost of ap- proximately $80 million for all its deﬁned beneﬁt pension plans. The unfavorable variance compared to 2014 is mainly the result of an increase in the amortization of actuarial losses due to a decrease in the discount rate used from 4.73% to 3.87%, partly offset by lower interest costs. was assumed to be 7.5% in 2014, and it is assumed that the rate will decrease gradually to 4.5% in 2028 and remain at that level thereafter. For the year ended December 31, 2014, a one-percentage-point change in either the rate of compensation increase or the health care cost trend rate would not cause a material change to the Company’s net periodic beneﬁt cost for both pensions and other postretirement beneﬁts. Mortality On February 13, 2014, the Canadian Institute of Actuaries (CIA) pub- lished a ﬁnal report on Canadian Pensioners’ Mortality (“Report”). The Report contains Canadian pensioners’ mortality tables and improvement scales based on experience studies conducted by the CIA. Based on the CIA’s Report, the overall level of recent mortality experience is signiﬁcantly lower than that anticipated by the mortality tables commonly used. Furthermore, improvement rates experienced in recent years have been substantially higher than commonly antici- pated. The conclusions in the ﬁnal Report are in-line with the draft Report that was issued in 2013 and that was taken into account in selecting management’s best estimate mortality assumption used to calculate the projected beneﬁt obligation for the December 31, 2013 year-end. As expected, the ﬁnal Report did not have a signiﬁcant impact on CN’s projected beneﬁt obligation in 2014. Canadian National Railway Company U.S. GAAP 2014 Annual Report 41 Management’s Discussion and Analysis Funding of pension plans In 2014, the Company made no voluntary contributions For accounting purposes, the funded status is calculated under ($100 million in 2013) in excess of the required minimum contribu- generally accepted accounting principles for all pension plans. tions. Voluntary contributions can be treated as a prepayment against For funding purposes, the funded status is also calculated under its future required special solvency payments. As at December 31, going-concern and solvency scenarios as prescribed under pension 2014, the Company had $143 million of accumulated prepayments legislation and subject to guidance issued by the CIA for all of the under the CN Pension Plan which remain available to offset future registered Canadian deﬁned beneﬁt pension plans. The Company’s required solvency deﬁcit payments. The Company expects to use funding requirements are determined upon completion of actu- these prepayments to satisfy a portion of its 2015 required solvency arial valuations. Actuarial valuations are generally required on an deﬁcit payment. The Company established an irrevocable standby annual basis for all Canadian plans, or when deemed appropriate letter of credit in 2014 with a face amount of approximately $3 mil- by the Ofﬁce of the Superintendent of Financial Institutions. lion in order to satisfy the solvency deﬁcit payment for the BC Rail The Company’s latest actuarial valuations for funding purposes Pension Plan. The Company expects to further subscribe to letters conducted as at December 31, 2013 indicated a funding excess of credit in 2015 to satisfy the solvency deﬁcit payments for certain on a going-concern basis of approximately $1.6 billion and a fund- of its deﬁned beneﬁt pension plans including the CN Pension Plan. ing deﬁcit on a solvency basis of approximately $1.7 billion. The Under the CN Pension Plan, considering the prepayments available, Company’s next actuarial valuations required as at December 31, it is expected that the letters of credit will only be required in the 2014 will be performed in 2015. These actuarial valuations are third quarter of 2015. The total face amount of the letters of credit expected to identify a going-concern surplus of approximately is expected to be approximately $90 million at the end of 2015. As $1.9 billion, while on a solvency basis a funding deﬁcit of ap- a result, the Company’s cash contributions for 2015 are expected to proximately $1.1 billion is expected due to the level of interest be approximately $125 million, for all the Company’s pension plans. rates applicable at their respective measurement dates. The federal The Company expects cash from operations and its other sources of pension legislation requires funding deﬁcits, as calculated under ﬁnancing to be sufﬁcient to meet its 2015 funding obligations. current pension regulations, to be paid over a number of years. Adverse changes to the assumptions used to calculate the Alternatively, a letter of credit can be subscribed to fulﬁll required Company’s funding status, particularly the discount rate, as well as solvency deﬁcit payments. Actuarial valuations are also required changes to existing federal pension legislation could signiﬁcantly annually for the Company’s U.S. pension plans. impact the Company’s future contributions. Information disclosed by major pension plan The following table provides the Company’s plan assets by category, projected beneﬁt obligation at end of year, as well as Company and employee contributions by major deﬁned beneﬁt pension plan: In millions Plan assets by category Cash and short-term investments Bonds Mortgages Equities Real estate Oil and gas Infrastructure Absolute return Risk-based allocation Other (1) Total plan assets Projected beneﬁt obligation at end of year Company contributions in 2014 Employee contributions in 2014 December 31, 2014 CN Pension Plan BC Rail Pension Plan U.S. and other plans Total $ 536 $ 20 $ 4,776 126 6,681 306 1,325 853 1,685 612 5 $ 16,905 $ 16,059 $ $ 90 58 196 4 215 10 43 28 54 20 1 591 561 1 - 23 93 1 118 1 6 4 7 3 9 $ 579 5,065 131 7,014 317 1,374 885 1,746 635 15 $ $ 265 659 20 - $ 17,761 $ 17,279 111 58 (1) Other consists of operating assets of $145 million ($85 million in 2013) and liabilities of $130 million ($24 million in 2013) required to administer the trust funds’ investment assets and the plans’ beneﬁt and funding activities. Additional disclosures are provided in Note 12 – Pensions and other postretirement beneﬁts to the Company’s 2014 Annual Consolidated Financial Statements. 42 2014 Annual Report U.S. GAAP Canadian National Railway Company Management’s Discussion and Analysis Personal injury and other claims United States In the normal course of business, the Company becomes involved Personal injury claims by the Company’s employees, including in various legal actions seeking compensatory and occasionally claims alleging occupational disease and work-related injuries, punitive damages, including actions brought on behalf of various are subject to the provisions of the Federal Employers’ Liability purported classes of claimants and claims relating to employee and Act (FELA). Employees are compensated under FELA for damages third-party personal injuries, occupational disease and property assessed based on a ﬁnding of fault through the U.S. jury system damage, arising out of harm to individuals or property allegedly or through individual settlements. As such, the provision is un- caused by, but not limited to, derailments or other accidents. discounted. With limited exceptions where claims are evaluated Canada on a case-by-case basis, the Company follows an actuarial-based approach and accrues the expected cost for personal injury, Employee injuries are governed by the workers’ compensation including asserted and unasserted occupational disease claims, legislation in each province whereby employees may be awarded and property damage claims, based on actuarial estimates of either a lump sum or a future stream of payments depending on their ultimate cost. A comprehensive actuarial study is performed the nature and severity of the injury. As such, the provision for annually. employee injury claims is discounted. In the provinces where the For employee work-related injuries, including asserted occu- Company is self-insured, costs related to employee work-related pational disease claims, and third-party claims, including grade injuries are accounted for based on actuarially developed esti- crossing, trespasser and property damage claims, the actuarial mates of the ultimate cost associated with such injuries, including valuation considers, among other factors, the Company’s his- compensation, health care and third-party administration costs. A torical patterns of claims ﬁlings and payments. For unasserted comprehensive actuarial study is generally performed at least on a occupational disease claims, the actuarial study includes the triennial basis. For all other legal actions, the Company maintains, projection of the Company’s experience into the future consid- and regularly updates on a case-by-case basis, provisions for such ering the potentially exposed population. The Company adjusts items when the expected loss is both probable and can be reason- its liability based upon management’s assessment and the results ably estimated based on currently available information. of the study. On an ongoing basis, management reviews and In 2014, the Company recorded a $2 million decrease to its compares the assumptions inherent in the latest actuarial study provision for personal injuries and other claims in Canada as a re- with the current claim experience and, if required, adjustments sult of a comprehensive actuarial study for employee injury claims to the liability are recorded. as well as various other claims. Due to the inherent uncertainty involved in projecting future As at December 31, 2014, 2013 and 2012, the Company’s events, including events related to occupational diseases, which provision for personal injury and other claims in Canada was as include but are not limited to, the timing and number of actual follows: In millions Beginning of year Accruals and other Payments End of year claims, the average cost per claim and the legislative and judicial environment, the Company’s future payments may differ from 2014 2013 2012 current amounts recorded. $ 210 $ 209 $ 199 In 2014, the Company recorded a $20 million reduction to its 28 (35) 38 (37) 55 (45) provision for U.S. personal injury and other claims attributable to non-occupational disease claims, third-party claims and occu- $ 203 $ 210 $ 209 pational disease claims pursuant to the 2014 external actuarial Current portion – End of year $ 28 $ 31 $ 39 The assumptions used in estimating the ultimate costs for Canadian employee injury claims include, among other factors, the discount rate, the rate of inﬂation, wage increases and health care costs. The Company periodically reviews its assumptions to reﬂect currently available information. Over the past three years, the Company has not signiﬁcantly changed any of these assump- tions. Changes in any of these assumptions could materially affect Casualty and other expense as reported in the Company’s results of operations. study. In previous years, external actuarial studies have supported a net decrease of $11 million and a net increase of $1 million to the Company’s provision for U.S. personal injury and other claims in 2013 and 2012, respectively. The decrease of $11 mil- lion from the 2013 actuarial valuation was mainly attributable to non-occupational disease claims, third-party claims and occupa- tional disease claims, reﬂecting a decrease in the Company’s esti- mates of unasserted claims and costs related to asserted claims. The Company has an ongoing risk mitigation strategy focused on reducing the frequency and severity of claims through injury prevention and containment; mitigation of claims; and lower For all other legal claims in Canada, estimates are based on the settlements of existing claims. speciﬁcs of the case, trends and judgment. Canadian National Railway Company U.S. GAAP 2014 Annual Report 43 Management’s Discussion and Analysis As at December 31, 2014, 2013 and 2012, the Company’s assessments occur, remedial efforts are probable, and when the provision for personal injury and other claims in the U.S. was as costs, based on a speciﬁc plan of action in terms of the technology follows: In millions Beginning of year Accruals and other Payments Foreign exchange End of year 2014 2013 2012 to be used and the extent of the corrective action required, can be reasonably estimated. The Company estimates the costs related to a particular site using cost scenarios established by external $ 106 $ 105 $ 111 consultants based on the extent of contamination and expected 2 (22) 9 18 (24) 7 31 (34) (3) costs for remedial efforts. In the case of multiple parties, the Company accrues its allocable share of liability taking into account the Company’s alleged responsibility, the number of potentially $ 95 $ 106 $ 105 responsible parties and their ability to pay their respective share of Current portion – End of year $ 20 $ 14 $ 43 For the U.S. personal injury and other claims liability, historical claim data is used to formulate assumptions relating to the expected number of claims and average cost per claim for each year. Changes in any one of these assumptions could materially affect Casualty and other expense as reported in the Company’s results of operations. A 5% change in the asbestos average claim cost or a 1% change in the inﬂation trend rate for all injury types would result in an increase or decrease in the liability recorded of approximately $1 million. Environmental matters Known existing environmental concerns the liability. Adjustments to initial estimates are recorded as addi- tional information becomes available. The Company’s provision for speciﬁc environmental sites is un- discounted and includes costs for remediation and restoration of sites, as well as monitoring costs. Environmental expenses, which are classiﬁed as Casualty and other in the Consolidated Statement of Income, include amounts for newly identiﬁed sites or contam- inants as well as adjustments to initial estimates. Recoveries of environmental remediation costs from other parties are recorded as assets when their receipt is deemed probable. As at December 31, 2014, 2013 and 2012, the Company’s provision for speciﬁc environmental sites was as follows: The Company has identiﬁed approximately 255 sites at which it In millions 2014 2013 2012 is or may be liable for remediation costs, in some cases along with other potentially responsible parties, associated with alleged contamination and is subject to environmental clean-up and en- forcement actions, including those imposed by the United States Federal Comprehensive Environmental Response, Compensation and Liability Act of 1980 (CERCLA), also known as the Superfund law, or analogous state laws. CERCLA and similar state laws, in Beginning of year $ 119 $ 123 $ 152 Accruals and other Payments Foreign exchange 11 (19) 3 12 (18) 2 (4) (24) (1) End of year $ 114 $ 119 $ 123 Current portion – End of year $ 45 $ 41 $ 31 addition to other similar Canadian and U.S. laws, generally im- The Company anticipates that the majority of the liability at pose joint and several liability for clean-up and enforcement costs December 31, 2014 will be paid out over the next ﬁve years. on current and former owners and operators of a site, as well as However, some costs may be paid out over a longer period. Based those whose waste is disposed of at the site, without regard to on the information currently available, the Company considers its fault or the legality of the original conduct. The Company has provisions to be adequate. been notiﬁed that it is a potentially responsible party for study and clean-up costs at approximately 10 sites governed by the Unknown existing environmental concerns Superfund law (and analogous state laws) for which investigation While the Company believes that it has identiﬁed the costs likely to be and remediation payments are or will be made or are yet to be incurred for environmental matters based on known information, the determined and, in many instances, is one of several potentially discovery of new facts, future changes in laws, the possibility of releas- responsible parties. es of hazardous materials into the environment and the Company’s The ultimate cost of addressing these known contaminated ongoing efforts to identify potential environmental liabilities that may sites cannot be deﬁnitively established given that the estimated be associated with its properties may result in the identiﬁcation of environmental liability for any given site may vary depending on additional environmental liabilities and related costs. The magnitude the nature and extent of the contamination; the nature of antici- of such additional liabilities and the costs of complying with future pated response actions, taking into account the available clean-up environmental laws and containing or remediating contamination techniques; evolving regulatory standards governing environment- cannot be reasonably estimated due to many factors, including: al liability; and the number of potentially responsible parties and (a) the lack of speciﬁc technical information available with respect their ﬁnancial viability. As a result, liabilities are recorded based to many sites; on the results of a four-phase assessment conducted on a site- (b) the absence of any government authority, third-party orders, or by-site basis. A liability is initially recorded when environmental claims with respect to particular sites; 44 2014 Annual Report U.S. GAAP Canadian National Railway Company Management’s Discussion and Analysis (c) the potential for new or changed laws and regulations and for waste water and storm water treatment systems, comply with development of new remediation technologies and uncertainty environmental standards and include new construction and the regarding the timing of the work with respect to particular updating of existing systems and/or processes. Other capital ex- sites; and penditures relate to assessing and remediating certain impaired (d) the determination of the Company’s liability in proportion to properties. The Company’s environmental capital expenditures other potentially responsible parties and the ability to recover amounted to $19 million in 2014, $10 million in 2013 and costs from any third parties with respect to particular sites. $13 million in 2012. For 2015, the Company expects to incur capital expenditures relating to environmental matters in the same Therefore, the likelihood of any such costs being incurred or range as 2014. whether such costs would be material to the Company cannot be determined at this time. There can thus be no assurance that Business risks liabilities or costs related to environmental matters will not be In the normal course of business, the Company is exposed to vari- incurred in the future, or will not have a material adverse effect ous business risks and uncertainties that can have an effect on on the Company’s ﬁnancial position or results of operations in a the Company’s results of operations, ﬁnancial position, or liquidity. particular quarter or ﬁscal year, or that the Company’s liquidity While some exposures may be reduced by the Company’s risk will not be adversely impacted by such liabilities or costs, although management strategies, many risks are driven by external factors management believes, based on current information, that the beyond the Company’s control or are of a nature which cannot be costs to address environmental matters will not have a material eliminated. The following is a discussion of key areas of business adverse effect on the Company’s ﬁnancial position or liquidity. risks and uncertainties. Costs related to any unknown existing or future contamination will be accrued in the period in which they become probable and Competition reasonably estimable. Future occurrences The Company faces signiﬁcant competition, including from rail carriers and other modes of transportation, and is also affected by its customers’ ﬂexibility to select among various origins and In railroad and related transportation operations, it is possible that destinations, including ports, in getting their products to market. derailments or other accidents, including spills and releases of Speciﬁcally, the Company faces competition from Canadian Paciﬁc hazardous materials, may occur that could cause harm to human Railway Company, which operates the other major rail system in health or to the environment. As a result, the Company may incur Canada and services most of the same industrial areas, commodity costs in the future, which may be material, to address any such resources and population centers as the Company; major U.S. rail- harm, compliance with laws and other risks, including costs relat- roads and other Canadian and U.S. railroads; long-distance truck- ing to the performance of clean-ups, payment of environmental ing companies, transportation via the St. Lawrence-Great Lakes penalties and remediation obligations, and damages relating to Seaway and the Mississippi River and transportation via pipelines. harm to individuals or property. Regulatory compliance In addition, while railroads must build or acquire and maintain their rail systems, motor carriers and barges are able to use public rights-of-way that are built and maintained by public entities with- The Company may incur signiﬁcant capital and operating costs out paying fees covering the entire costs of their usage. associated with environmental regulatory compliance and clean- Competition is generally based on the quality and the reliabil- up requirements, in its railroad operations and relating to its past ity of the service provided, access to markets, as well as price. and present ownership, operation or control of real property. Factors affecting the competitive position of customers, including Environmental expenditures that relate to current operations are exchange rates and energy cost, could materially adversely affect expensed unless they relate to an improvement to the property. the demand for goods supplied by the sources served by the Expenditures that relate to an existing condition caused by past Company and, therefore, the Company’s volumes, revenues and operations and which are not expected to contribute to current or proﬁt margins. Factors affecting the general market conditions for future operations are expensed. Operating expenses for environ- the Company’s customers can result in an imbalance of transpor- mental matters amounted to $20 million in 2014, $18 million in tation capacity relative to demand. An extended period of supply/ 2013 and $16 million in 2012. For 2015, the Company expects demand imbalance could negatively impact market rate levels for to incur operating expenses relating to environmental matters all transportation services, and more speciﬁcally the Company’s in the same range as 2014. In addition, based on the results of ability to maintain or increase rates. This, in turn, could materially its operations and maintenance programs, as well as ongoing and adversely affect the Company’s business, results of operations environmental audits and other factors, the Company plans for or ﬁnancial position. speciﬁc capital improvements on an annual basis. Certain of these The level of consolidation of rail systems in the U.S. has re- improvements help ensure facilities, such as fuelling stations and sulted in larger rail systems that are able to offer seamless services Canadian National Railway Company U.S. GAAP 2014 Annual Report 45 Management’s Discussion and Analysis in larger market areas and, accordingly, compete effectively with The environmental liability for any given contaminated site the Company in numerous markets. This requires the Company varies depending on the nature and extent of the contamination; to consider arrangements or other initiatives that would similarly the available clean-up techniques; evolving regulatory standards enhance its own service. governing environmental liability; and the number of potentially There can be no assurance that the Company will be able to responsible parties and their ﬁnancial viability. As such, the ultimate compete effectively against current and future competitors in the cost of addressing known contaminated sites cannot be deﬁnitively transportation industry, and that further consolidation within the established. Also, additional contaminated sites yet unknown may transportation industry and legislation allowing for more leniency be discovered or future operations may result in accidental releases. in size and weight for motor carriers will not adversely affect the While some exposures may be reduced by the Company’s risk Company’s competitive position. No assurance can be given that mitigation strategies (including periodic audits, employee training competitive pressures will not lead to reduced revenues, proﬁt programs and emergency plans and procedures), many environ- margins or both. Environmental matters mental risks are driven by external factors beyond the Company’s control or are of a nature which cannot be completely eliminat- ed. Therefore, there can be no assurance, notwithstanding the The Company’s operations are subject to numerous federal, provin- Company’s mitigation strategies, that liabilities or costs related to cial, state, municipal and local environmental laws and regulations environmental matters will not be incurred in the future or that in Canada and the U.S. concerning, among other things, emissions environmental matters will not have a material adverse effect on into the air; discharges into waters; the generation, handling, stor- the Company’s results of operations, ﬁnancial position or liquidity, age, transportation, treatment and disposal of waste, hazardous and reputation in a particular quarter or ﬁscal year. substances and other materials; decommissioning of underground and aboveground storage tanks; and soil and groundwater contam- Personal injury and other claims ination. A risk of environmental liability is inherent in railroad and In the normal course of business, the Company becomes involved related transportation operations; real estate ownership, operation in various legal actions seeking compensatory and occasionally or control; and other commercial activities of the Company with re- punitive damages, including actions brought on behalf of various spect to both current and past operations. As a result, the Company purported classes of claimants and claims relating to employee and incurs signiﬁcant operating and capital costs, on an ongoing basis, third-party personal injuries, occupational disease, and property associated with environmental regulatory compliance and clean-up damage, arising out of harm to individuals or property allegedly requirements in its railroad operations and relating to its past and caused by, but not limited to, derailments or other accidents. The present ownership, operation or control of real property. Company maintains provisions for such items, which it considers While the Company believes that it has identiﬁed the costs to be adequate for all of its outstanding or pending claims and likely to be incurred for environmental matters in the next several beneﬁts from insurance coverage for occurrences in excess of years based on known information, the discovery of new facts, certain amounts. The ﬁnal outcome with respect to actions out- future changes in laws, the possibility of releases of hazardous ma- standing or pending at December 31, 2014, or with respect to terials into the environment and the Company’s ongoing efforts to future claims, cannot be predicted with certainty, and therefore identify potential environmental liabilities that may be associated there can be no assurance that their resolution will not have a with its properties may result in the identiﬁcation of additional material adverse effect on the Company’s results of operations, environmental liabilities and related costs. ﬁnancial position or liquidity, in a particular quarter or ﬁscal year. In railroad and related transportation operations, it is possible that derailments or other accidents, including spills and releases of Labor negotiations hazardous materials, may occur that could cause harm to human Canadian workforce health or to the environment. In addition, the Company is also As at December 31, 2014, CN employed a total of 17,732 em- exposed to potential catastrophic liability risk, faced by the rail- ployees in Canada, of which 13,335 were unionized employees. road industry generally, in connection with the transportation of From time to time, the Company negotiates to renew collective toxic inhalation hazard materials such as chlorine and anhydrous agreements with various unionized groups of employees. ammonia, or other dangerous commodities like crude oil and pro- In the fourth quarter of 2014, the bargaining process com- pane that the Company may be required to transport as a result of menced for the renewal of CN’s collective agreements which its common carrier obligations. Therefore, the Company may incur expired on December 31, 2014, with: costs in the future, which may be material, to address any such • Unifor (formerly Canadian Auto Workers (CAW)) governing harm, compliance with laws or other risks, including costs relating clerical, intermodal, shopcraft employees and owner operator to the performance of clean-ups, payment of environmental pen- truck drivers; alties and remediation obligations, and damages relating to harm • the Teamsters Canada Rail Conference governing rail trafﬁc to individuals or property. controllers (TCRC-RCTC); 46 2014 Annual Report U.S. GAAP Canadian National Railway Company Management’s Discussion and Analysis • the Teamsters Canada Rail Conference governing locomotive Where negotiations are ongoing, the terms and conditions of engineers (TCRC-LE); and existing agreements generally continue to apply until new agree- • the United Steelworkers of America (USW) governing track ments are reached or the processes of the Railway Labor Act have workers. been exhausted. On November 7, 2014, CN requested conciliation assistance There can be no assurance that there will not be any work action from the Minister of Labour with regards to the bargaining with by any of the bargaining units with which the Company is cur- Unifor and the TCRC bargaining units. On November 25, 2014, rently in negotiations or that the resolution of these negotiations the Minister of Labour appointed conciliation ofﬁcers to assist the will not have a material adverse effect on the Company’s results of Company and the unions in their negotiations. operations or ﬁnancial position. On January 14, 2015, a tentative agreement was reached to renew the collective agreement with the TCRC-RCTC, which is Regulation subject to ratiﬁcation by the members. The results of the ratiﬁca- The Company’s rail operations in Canada are subject to economic tion vote are expected by February 28, 2015. regulation by the Canadian Transportation Agency (“Agency”) On January 30, 2015, the collective agreement with the USW, under the Canada Transportation Act (CTA), and safety regulation was ratiﬁed by the members. The new collective agreement will by the Federal Minister of Transport under the Railway Safety Act expire on December 31, 2018. and certain other statutes. The Company’s U.S. rail operations are subject to economic The other collective agreements remain in effect until the bar- regulation by the Surface Transportation Board (STB), and safe- gaining process outlined under the Canada Labour Code has been ty regulation by the Federal Railroad Administration (FRA), with exhausted for the respective bargaining units. the transportation of certain hazardous commodities also gov- erned by regulations promulgated by the Pipeline and Hazardous Disputes relating to the renewal of collective agreements could poten- Materials Safety Administration (PHMSA). tially result in strikes, work stoppages, slowdowns and loss of business. Future labor agreements or renegotiated agreements could increase Economic regulation – Canada labor and fringe beneﬁts expenses. There can be no assurance that The CTA provides rate and service remedies, including ﬁnal the Company will be able to renew and have its collective agreements offer arbitration (FOA), competitive line rates and compulsory ratiﬁed without any strikes or lockouts or that the resolution of these interswitching. The CTA also regulates the maximum revenue collective bargaining negotiations will not have a material adverse entitlement for the movement of grain, charges for railway effect on the Company’s results of operations or ﬁnancial position. ancillary services and noise-related disputes. In addition, various Company business transactions must gain prior regulatory approv- U.S. workforce al, with attendant risks and uncertainties. As at December 31, 2014, CN employed a total of 7,798 employ- On January 22, 2014, Transport Canada initiated a compre- ees in the U.S., of which 6,137 were unionized employees. hensive review and consultation on the liability and compensation As of February 2, 2015, the Company had in place agreements regime for rail. On August 1, 2014, Transport Canada launched with bargaining units representing the entire unionized workforce at a second stage of consultations with a view to strengthen the Grand Trunk Western Railroad Company (GTW), companies owned liability and compensation regime for railways and shippers by by Illinois Central Railroad Company (ICRR), companies owned establishing supplementary compensation for incidents involving by Wisconsin Central Ltd. (WC), Bessemer & Lake Erie Railroad dangerous goods. Company (BLE) and The Pittsburgh and Conneaut Dock Company On March 7, 2014, the Government of Canada issued an Order (PCD). Agreements in place have various moratorium provisions, in Council, requiring each of the Company and Canadian Paciﬁc ranging up to 2018, which preserve the status quo in respect of the Railway Company to move progressively increasing minimum vol- given collective agreement during the terms of such moratoriums. umes of grain up to a prescribed weekly minimum of 500,000 Some of these agreements are currently under renegotiation. metric tonnes. On May 29, 2014, Bill C-30 came into force. It The general approach to labor negotiations by U.S. Class I railroads is to bargain on a collective national basis with the industry, which amended the CTA by requiring the Company and Canadian Paciﬁc Railway Company to each move at least 500,000 metric tonnes GTW, ICRR, WC and BLE have agreed to participate in, effective of grain weekly through to August 3, 2014. Bill C-30 also allows: January 2015, for collective agreements covering non-operating em- (a) the Government to specify minimum amounts of grain to be ployees. Collective agreements covering operating employees at GTW, moved in future grain crop years; ICRR, WC, BLE and all employees at PCD continue to be bargained on (b) the Agency to extend current interswitching limits for speciﬁc a local (corporate) basis. In either situation, a labor dispute may not regions or speciﬁc commodities; generate federal intervention in a strike or lockout situation. Canadian National Railway Company U.S. GAAP 2014 Annual Report 47 Management’s Discussion and Analysis (c) the Agency to make regulations specifying what constitutes and uncertainties. The STB has undertaken proceedings in the past ‘operational terms’ for the purpose of the establishment of few years in a number of areas. service level agreements; and On July 25, 2012, following hearings in June 2011 on the (d) the Agency to order a railway company to pay shippers for state of competition in the railroad industry, the STB commenced expenses incurred as a result of the railway’s failure to fulﬁll its a proceeding to consider a proposal by the National Industrial service obligations. Transportation League for competitive switching. In a ﬁrst phase, parties submitted at STB’s request on March 1, 2013, a wide variety The amendments introduced by Bill C-30 are intended to remain in of data to assess the scope and potential impact of the proposal effect up to August 1, 2016, unless further extended by Parliament. and submitted reply comments on May 30, 2013. The STB held On August 1, 2014, the Agency issued an amendment to the hearings on March 25-26, 2014 to further review these matters. interswitching regulations extending the distance to 160 kilom- On July 18, 2013, the STB issued a decision raising relief caps and eters from the current 30 kilometers limits for all commodities making certain other technical changes for rate complaints brought in the provinces of Manitoba, Saskatchewan and Alberta. The under its simpliﬁed rate guidelines and on December 12, 2013, the Agency also issued regulations deﬁning what constitutes ‘oper- STB instituted a proceeding to invite comments on how to ensure ational terms’ for the purpose of rail level of service arbitrations. its rate complaint procedures are accessible to grain shippers and On August 1, 2014, the Government of Canada also issued provide effective protection against unreasonable grain rates. an Order in Council requiring each of the Company and Canadian On December 20, 2013, the STB instituted a rulemaking to Paciﬁc Railway Company to move at least 536,250 metric tonnes review how it determines the rail industry’s cost of equity capital, of grain weekly, subject to volume demand and corridor capacity and on April 2, 2014, joined it with a proceeding to explore its during the period of August 3, 2014 to November 29, 2014. On methodology for determining railroad revenue adequacy and the November 27, 2014, the Government of Canada issued a new revenue adequacy component used in judging the reasonableness Order in Council prescribing various minimum volumes for the per- iod of November 29, 2014 to March 28, 2015. Failure to move the prescribed minimum tonnage potentially subjects the Company to an administrative monetary penalty of up to $100,000 per violation. of rail rates. In addition, on September 2, 2014, the STB made its annual revenue adequacy determination for Class I carriers for 2013. The STB determined that ﬁve Class I carriers are revenue adequate, among them Grand Trunk Corporation, which includes The Company received letters from a Transport Canada CN’s U.S. afﬁliated operations. Enforcement Ofﬁcer requiring CN to provide detailed infor- On April 11, 2014, the STB adopted ﬁnal rules, effective July 15, mation and documentary evidence describing the factors that 2014, establishing that any person receiving rail cars from a rail carrier contributed to CN’s failure to meet the minimum grain volume for loading or unloading, including third parties in addition to the requirements in speciﬁed weeks and by how much these fac- consignor and consignee, who detains the cars beyond the period of tors contributed to the failure. On December 14, 2014, CN was free time speciﬁed in a carrier’s governing demurrage tariff will gen- issued two notices of violation for the failure to meet the min- erally be liable for demurrage if the carrier has provided that person imum volumes of grain for two separate weeks with an assessed with actual notice of the carrier’s tariff establishing such liability. penalty of $50,000 for each week. On May 29, 2014, the STB instituted an advance notice of pro- On June 25, 2014, the Government launched the statutory posed rulemaking to invite comments on whether the safe harbor review of the CTA. The Government appointed a six-person panel provision of its current fuel surcharge rules should be modiﬁed to conduct this review. The panel’s report is required to be pro- or removed. vided to the Federal Minister of Transport 18 months after their As part of the Passenger Rail Investment and Improvement Act appointment. CN will be submitting comments early in 2015 on of 2008 (PRIIA), the U.S. Congress has authorized the STB to investi- the subjects being examined by the panel. gate any railroad over whose track Amtrak operates that fails to meet No assurance can be given that any current or future legislative extending over two calendar quarters and to determine the cause action by the federal government or other future government in- of such failures. Compliance with this mandate began with the itiatives will not materially adversely affect the Company’s results third quarter of 2010 and is governed by performance metrics and an 80 percent on-time performance standard for Amtrak operations of operations or ﬁnancial position. Economic regulation – U.S. standards jointly issued by the FRA and Amtrak on May 12, 2010. Should the STB commence an investigation and determine that a failure to meet these standards is due to the host railroad’s failure The STB serves as both an adjudicatory and regulatory body and to provide preference to Amtrak, the STB is authorized to assess has jurisdiction over railroad rate and service issues and rail restruc- damages against the host railroad. On January 19, 2012, Amtrak turing transactions such as mergers, line sales, line construction ﬁled a complaint with the STB to commence such an investigation, and line abandonments. As such, various Company business trans- including a request for damages for preference failures, for allegedly actions must gain prior regulatory approval, with attendant risks sub-standard performance of Amtrak trains on CN’s ICRR and GTW 48 2014 Annual Report U.S. GAAP Canadian National Railway Company Management’s Discussion and Analysis lines. CN responded on March 9, 2012 to Amtrak’s complaint. CN (CTCO) contingency protocols and other industry-wide informa- and Amtrak entered into STB-supervised mediation until October 4, tion be provided from individual railroads. On December 30, 2014, 2012, and on joint motion of the parties shortly thereafter, the STB stayed the proceedings until July 31, 2013. The Company partici- pated in a railroad industry challenge to the constitutionality of the the STB issued a notice of proposed rulemaking to require the Class I railroads to permanently report certain service performance metrics on a weekly basis. joint FRA/Amtrak performance metrics and standards. On July 2, The acquisition of the Elgin, Joliet and Eastern Railway Company 2013, the U.S. Court of Appeals for the D.C. Circuit reversed a U.S. (EJ&E) in 2009 followed an extensive regulatory approval process District Court decision and determined that Congress’ delegation to by the STB, which included an Environmental Impact Statement Amtrak of joint legislative authority with the FRA to promulgate the (EIS) that resulted in conditions imposed to mitigate municipalities’ metrics and standards to be unconstitutional. In light of that deci- concerns regarding increased rail activity expected along the EJ&E sion, and on joint motion of the parties, the STB further stayed the line. The Company accepted the STB-imposed conditions with proceedings until July 31, 2014, to provide time that may be neces- one exception. The Company ﬁled an appeal at the U.S. Court of sary for a ﬁnal resolution on the constitutionality of the metrics and Appeals for the District of Columbia Circuit challenging the STB’s standards pending further appeals. On June 23, 2014, the Supreme condition requiring the installation of grade separations at two Court granted the Government’s petition seeking its review of the locations along the EJ&E line at Company funding levels signiﬁ- D.C. Circuit decision and heard the case on December 8, 2014. On cantly beyond prior STB practice. Appeals were also ﬁled by certain August 29, 2014, Amtrak ﬁled with the STB a motion to amend communities challenging the sufﬁciency of the EIS. On March 15, its January 19, 2012 complaint against CN to limit it to a single 2011, the Court denied the CN and community appeals. As such, Amtrak service over CN’s ICRR line. On September 17, 2014, CN the Company has estimated remaining commitments, through to moved to dismiss the proceeding on the basis of the D.C. Circuit’s December 31, 2016, of approximately $65 million (US$56 million), constitutionality decision or alternatively to stay Amtrak’s motion in relation to the acquisition. pending the Supreme Court’s decision. On December 19, 2014, the On November 8, 2012, the STB denied the request of the STB issued a decision granting Amtrak’s motion to limit its complaint Village of Barrington, Illinois (Barrington) that the STB impose to a single route and concluding that pending litigation involving additional mitigation that would require CN to fund the full cost of the constitutionality of the joint FRA/Amtrak performance metrics a grade separation at a location along the EJ&E line in Barrington. does not preclude the case from moving forward. On December 26, 2012, Barrington appealed the STB’s decision to On July 30, 2013, Amtrak ﬁled an application with the STB the U.S. Court of Appeals for the D.C. Circuit. On July 18, 2014, requesting the agency to set terms and compensation for a new the U.S. Court of Appeals for the D.C. Circuit issued its decision CN/Amtrak Operating Agreement to replace the one that was denying Barrington’s petition. On November 26, 2014, Barrington expiring on August 11, 2013. On August 1, 2013, CN agreed to asked the STB to impose additional mitigation in the form of a continue to make its facilities available to Amtrak during the STB’s grade separation at the intersection of U.S. Highway 14 and the consideration, under the terms of the expired agreement. EJ&E line in Barrington at CN’s expense. The Company ﬁled its The U.S. Congress has had under consideration for several reply at the STB on December 16, 2014. years various pieces of legislation that would increase federal The STB also imposed a ﬁve-year monitoring and oversight con- economic regulation of the railroad industry. In the 2013 – 2014 dition, subsequently extended by one additional year to January session of Congress, legislation to repeal the rail industry’s limited 2015, during which the Company is required to ﬁle with the STB antitrust exemptions (S. 638) was introduced in the Senate, as well monthly operational reports as well as quarterly reports on the as a bill (S. 2777) to reauthorize funding for the STB that also implementation status of the STB-imposed mitigation conditions. addresses several economic regulatory matters, such as arbitration This permits the STB to take further action if there is a material and STB investigation of complaints. These bills did not progress change in the facts and circumstances upon which it relied in im- prior to the adjournment of the 2013 – 2014 session of Congress, posing the speciﬁc mitigation conditions. but there is no assurance that similar bills or other legislation to A ﬁrst oversight audit of the Company’s EJ&E’s operational and increase federal economic regulation of the railroad industry will environmental reporting was completed in April 2010, and after not progress through the legislative process in the future. public comment was ﬁnalized by the STB in December 2010. In On October 8, 2014, the STB issued a decision requiring all Class I railroads to provide each week a broad range of operational data, starting October 22, 2014. The STB is seeking to provide December 2011, the STB directed a second oversight audit that commenced on February 17, 2012, which was completed on April 30, 2012, and released publicly by the STB on June 18, 2012. access to rail performance data sought by shippers and to meet On August 28, 2014, Barrington and the TRAC coalition ﬁled a the STB’s objective of promoting transparency, accountability, and petition requesting the STB to extend its oversight for two addi- improvements in rail service. The STB also directed that data specif- tional years. CN replied on September 16, 2014, in opposition to ic to Chicago and a narrative summary of operating conditions the petition. On December 17, 2014, the STB granted the petition, in Chicago as well as Chicago Transportation Coordination Ofﬁce extending oversight until January 23, 2017. Canadian National Railway Company U.S. GAAP 2014 Annual Report 49 Management’s Discussion and Analysis The resolution of matters that could arise during the STB’s Operating Certiﬁcate issued by the Federal Minister of Transport. remaining oversight of the transaction cannot be predicted The Bill also includes the ability for the government to establish with certainty, and therefore, there can be no assurance that Administrative Monetary Penalties in the event of contravention their resolution will not have a material adverse effect on the of prescribed provisions of the Act or regulations. Company’s ﬁnancial position or results of operations. On July 23, 2013, following a signiﬁcant derailment involving The Company’s ownership of the former Great Lakes a non-related short-line railroad within the Province of Quebec Transportation vessels is subject to regulation by the U.S. Coast (“Lac-Mégantic derailment”), the Federal Minister of Transport Guard (USCG) and the Department of Transportation, Maritime issued an Emergency Directive under the Canada Railway Safety Administration, which regulate the ownership and operation of Act to enhance the effectiveness of train securement proced- vessels operating on the Great Lakes and in U.S. coastal waters. In ures and safety across the Canadian rail industry and to help addition, the Environmental Protection Agency (EPA) has author- reduce the risk of unintended train movements that can lead ity to regulate air emissions from these vessels. Regulatory initia- to catastrophic accidents. CN has reviewed its safety policies for tives of these U.S. government agencies may materially adversely unattended trains and adjusted its safety practices to comply affect the Company’s ﬁnancial position or results of operations. with Transport Canada’s order. Transport Canada also issued an On November 8, 2011, the Federal Maritime Commission order requiring all federal railways to formulate or revise rules, as (FMC), which has authority over oceanborne transport of cargo the case may be, respecting the securement of unattended loco- into and out of the U.S., initiated a Notice of Inquiry to examine motives and crew size requirements. On November 20, 2013, the whether the U.S. Harbor Maintenance Tax (HMT) and other fac- Railway Association of Canada ﬁled revised rules on behalf of CN tors may be contributing to the diversion of U.S.-bound cargo and its other member railway companies in compliance with this to Canadian and Mexican seaports, which could affect CN rail order. On December 26, 2013, the Federal Minister of Transport operations. The Company ﬁled comments in this proceeding on issued a notice approving the revised rules. January 9, 2012. In July 2012, the FMC issued its study, which On October 17, 2013, Transport Canada issued Protective found that carriers shipping cargo through Canadian or Mexican Direction No. 31 under the Transportation of Dangerous Goods ports violate no U.S. law, treaty, agreement, or FMC regulation. Act, requiring any person offering crude oil for transport to test The report stated, however, that the HMT is one of many factors the classiﬁcation of the crude oil being offered. affecting the increased use of foreign ports for cargo bound On November 20, 2013, Transport Canada issued Protective for U.S. destinations and that amendment of the current HMT Direction No. 32 under the Transportation of Dangerous Goods structure should be considered so as to assist U.S. seaports. On Act, requiring railway companies to provide designated munici- September 17, 2013, the Maritime Goods Movement Act (Bill pal emergency planning ofﬁcials with yearly aggregate informa- S. 1509) was introduced and assigned to a congressional com- tion on the nature and volume of dangerous goods the company mittee for consideration. The bill proposes to replace the HMT transports by rail through the municipality. with a Maritime Goods Movement Fee which would be imposed On March 15, 2014, Transport Canada published for com- on any U.S.-destined cargo regardless of its point of entry into ments proposed new regulations governing railway operating North America. Among the bill’s goals is to discourage diversion certiﬁcates. They specify the safety and operating requirements of U.S.-bound goods through Canadian or Mexican ports. A that must be met in order to obtain a railway operating certiﬁcate, companion bill, H.R. 4105, was introduced on February 27, 2014 which will be an operating requirement for all federally-regulated in the U.S. House of Representatives. No action was taken on this railway carriers and local carriers operating on the railway lines of legislation in the Senate or House prior to adjournment of the federally regulated carriers. 2013 – 2014 session of Congress. On April 23, 2014, Transport Canada issued an Emergency Directive under the Railway Safety Act, requiring railway com- No assurance can be given that any future regulatory or legis- panies to operate certain trains carrying dangerous commodities lative initiatives by the U.S. federal government related to this at speeds not to exceed 50 miles per hour. In addition, on the inquiry and proposed legislation will not materially adversely same date, Transport Canada issued a separate order under the affect the Company’s results of operations or its competitive and Railway Safety Act requiring railway companies to formulate rules ﬁnancial position. Safety regulation – Canada that would replace the Emergency Directive on a permanent basis. These rules are under development. Transport Canada further or- dered railway companies to conduct route assessments for rail cor- Rail safety regulation in Canada is the responsibility of Transport ridors handling signiﬁcant volumes of dangerous goods. Transport Canada, which administers the Canadian Railway Safety Act, Canada also issued Protective Directions 33 and 34, respectively, as well as the rail portions of other safety-related statutes. On requiring an Emergency Response Assistance Plan in order to ship May 1, 2013, Bill S-4 came into force which prohibits anyone large volumes of ﬂammable liquids and prohibiting the use of cer- from operating a railway without having ﬁrst obtained a Railway tain DOT-111 tank cars for the transportation of dangerous goods. 50 2014 Annual Report U.S. GAAP Canadian National Railway Company Management’s Discussion and Analysis On May 17, 2014, Transport Canada published for comments In 2012, the Association of American Railroads (AAR) advised proposed new regulations setting out the administrative monetary the FRA on behalf of the industry that a nationwide interoperable penalties that could be issued for violations of the Railway Safety PTC network could not be completed by the current 2015 deadline. Act and its associated regulations. In August 2012, the FRA also reported to Congress that the majority On July 5, 2014, Transport Canada published for comments of the carriers would be unable to meet the December 31, 2015 im- proposed new Railway Safety Management System Regulations plementation deadline. In August 2013, legislation was introduced that would require federally regulated railway companies (and in the Senate that would delay PTC implementation by ﬁve years other carriers operating over federally regulated companies’ to the end of 2020, and in the same month, the U.S. Government trackage) to implement safety management systems. Accountability Ofﬁce published a report recommending that On July 15, 2014, Transport Canada issued Regulations Congress give the FRA authority to extend the deadline for individual Amending the Transportation of Dangerous Goods Regulations, carriers on a case-by-case basis. The PTC implementation legislation which speciﬁes new standards for tank cars as well as the pro- did not progress through the legislative process prior to adjourn- cedures and processes for classiﬁcation of dangerous goods and ment of the 2013 – 2014 session of Congress. The Company con- sampling methods used by the consignors and carriers of petrol- tinues its good faith efforts to implement PTC, although it believes eum crude oil. that the industry, including the Company, is unlikely to meet the cur- On October 29, 2014, Transport Canada issued an order under rent 2015 deadline. The Company will also continue to work with the Railway Safety Act, requiring railway companies to implement the industry to obtain an extension of the deadline. The Company enhanced minimum securement standards for immobilized trains. notes that noncompliance with the 2015 deadline can subject the Revisions to railway operating rules are under development to Company to regulatory sanctions. comply with those standards. In May 2013, the Federal Communications Commission (FCC) On December 17, 2014, Transport Canada issued new regu- suspended its normal processes to review possible impacts to his- lations for highway-railway crossings. These regulations establish toric properties, including tribal historic and cultural artifacts, of speciﬁc standards for new crossings and require that existing the installation of tens of thousands of poles industry-wide that crossings be upgraded to basic safety standards within seven are required to host PTC radio operations while it considered chan- years of the new regulations taking effect on April 1, 2015. ges to those procedures needed to accommodate that volume. On Safety regulation – U.S. May 16, 2014, the FCC lifted its suspension upon the Advisory Council on Historic Preservation (ACHP) approval of modiﬁcations Rail safety regulation in the U.S. is the responsibility of the FRA, to the FCC’s usual procedures for historic preservation review. The which administers the Federal Railroad Safety Act, as well as the AAR reported that despite these modiﬁcations, the railroad indus- rail portions of other safety statutes. In 2008, the U.S. federal gov- try will still not be able to install interoperable PTC on the entire ernment enacted legislation reauthorizing the Federal Railroad U.S. network by the December 31, 2015 deadline. Safety Act. This legislation covers a broad range of safety issues, In the aftermath of the July 2013 Lac-Mégantic derail ment, the including fatigue management, Positive Train Control (PTC), FRA issued Emergency Order No. 28, Notice No. 1 on August 2, grade crossings, bridge safety, and other matters. The legislation requires all Class I railroads and intercity passenger and commut- er railroads to implement a PTC system by December 31, 2015 on 2013 directing that railroads take speciﬁc actions regarding un- attended trains transporting speciﬁed hazardous materials, in- cluding securement of these trains. That same day, the FRA and mainline track where intercity passenger railroads and commuter the PHMSA issued Safety Advisory 2013-06, which made recom- railroads operate and where toxic inhalation hazard materials are mendations to railroads on issues including crew stafﬁng practices transported. PTC is a collision avoidance technology intended to and operational testing to ensure employees’ compliance with override locomotive controls and stop a train before an accident. securement-related rules, as well as recommendations to shippers The Company is taking steps to ensure implementation of PTC of crude oil to be transported by rail. In addition, the railroad in accordance with the new law, including working with other Class I railroads to satisfy the requirements for U.S. network interoperability. The Company’s PTC Implementation Plan, sub- industry has acted on its own to enhance rail safety in light of the Lac-Mégantic derailment and ﬁre. Effective August 5, 2013, AAR amended the industry’s Recommended Railroad Operating mitted in April 2010, has been approved by the FRA. CN’s total Practices for Transportation of Hazardous Materials (Circular No. implementation costs associated with PTC are estimated to be OT-55-N) by expanding the deﬁnition of a “key train” (for which US$550 million. The legislation also caps the number of on-duty heightened operating safeguards are required) to include trains and limbo time hours for certain rail employees on a monthly carrying one tank car load of poison or toxic inhalation hazard, basis. The Company is taking appropriate steps and is working anhydrous ammonia, or ammonia solutions and to include trains with the FRA to ensure that its operations conform to the law’s carrying 20 car loads or portable tank loads of any combination of requirements. hazardous materials (including ethanol and crude oil). Canadian National Railway Company U.S. GAAP 2014 Annual Report 51 Management’s Discussion and Analysis On August 12, 2013, the FRA established the Railroad Safety On September 10, 2014, legislation was introduced in the U.S. Advisory Committee (RSAC) to provide advice and recommenda- Senate (S. 2784) that proposes a number of new rail safety require- tions to the FRA on railroad safety matters. The FRA’s Emergency ments, including inward and outward facing cameras and redundant Order No. 28 resulted in four new tasks accepted by the RSAC. signal protection to protect maintenance of way workers, while also The four tasks are: train crew size; operational testing for secure- making signiﬁcant changes to FRA civil penalty levels, requiring studies ment; securement and hazardous material issues. Certain of the on rail operations that block crossings and on train lengths, and man- RSAC four task groups have produced recommendations that dating that trains transporting high-hazard ﬂammables and operating will be considered for future rulemakings. CN is an active partici- with any legacy DOT-111 tank cars maintain a speed limit of 40 miles pant in all four task groups. per hour in areas with a population of 100,000 or more. A second On September 6, 2013, PHMSA published an Advance Notice bill introduced in the U.S. Senate (S. 2858) in September 2014 would of Proposed Rulemaking (ANPRM) considering improvement of create strong penalties for railroads that violate safety standards, the regulations related to the transportation by rail of hazardous would require standardized hazardous materials information materials in tank cars. On November 14, 2013, CN was a partici- to support ﬁrst responders, and improved risk-assessment and pant in AAR’s comments ﬁled with PHMSA in this proceeding, decision-making tools for railroads. Neither bill was considered in which urged PHMSA to require that all tank cars used to trans- Congress prior to adjournment of the 2013 – 2014 session. port ﬂammable liquids be retroﬁtted or phased out, and that new cars be built to more stringent standards. The AAR comments No assurance can be given that these or any future regulatory included speciﬁc tank cars safety standard improvements, which or legislative initiatives by the Canadian and U.S. federal govern- the AAR maintained will substantially decrease the likelihood of ments will not materially adversely affect the Company’s results of a release if a tank car is involved in an accident. operations, or its competitive and ﬁnancial position. On January 23, 2014, the National Transportation Safety Board (NTSB) issued a series of recommendations to the U.S. Security Department of Transportation, to address the safety risk of The Company is subject to statutory and regulatory directives in transporting crude oil by rail. The NTSB’s recommendations the U.S. addressing homeland security concerns. In the U.S., safe- complement those issued by the Transportation Safety Board ty matters related to security are overseen by the Transportation of Canada and speciﬁcally: (1) require expanded hazardous ma- Security Administration (TSA), which is part of the U.S. Department terials route planning for railroads to avoid populated and other of Homeland Security (DHS) and the PHMSA, which, like the FRA, is sensitive areas; (2) development of an FRA/PHMSA audit pro- part of the U.S. Department of Transportation. Border security falls gram to ensure that railroads carrying petroleum products have under the jurisdiction of U.S. Customs and Border Protection (CBP), adequate emergency response capabilities to address worst-case which is part of the DHS. In Canada, the Company is subject to discharges of the product; and (3) require audits of shippers and regulation by the Canada Border Services Agency (CBSA). Matters railroads to ensure that they are properly classifying hazardous related to agriculture-related shipments crossing the Canada/U.S. materials being transported and that they have adequate safety border also fall under the jurisdiction of the U.S., Department of and security plans in place. Agriculture (USDA) and the Food and Drug Administration (FDA) On August 1, 2014, PHMSA published a Notice of Proposed in the U.S. and the Canadian Food Inspection Agency (CFIA) in Rulemaking aimed at improving the safe transportation of Canada. More speciﬁcally, the Company is subject to: ﬂammable liquids by rail, addressing operating rules, speciﬁca- (a) Border security arrangements, pursuant to an agreement the tions for new tank cars, and the retroﬁt of existing tank cars. Company and Canadian Paciﬁc Railway Company entered into Concurrently, PHMSA issued an ANPRM on comprehensive oil with the CBP and the CBSA. spill response planning. CN was a participant in AAR’s comments (b) The CBP’s Customs-Trade Partnership Against Terrorism ﬁled with PHMSA in these two proceedings on September 30, (C-TPAT) program and designation as a low-risk carrier under 2014. AAR addressed speed limits for trains with at least one leg- CBSA’s Customs Self-Assessment (CSA) program. acy DOT-111 tank car moving ﬂammable liquids, urged PHMSA (c) Regulations imposed by the CBP requiring advance notiﬁcation to refrain from requiring electronically controlled pneumatic by all modes of transportation for all shipments into the U.S. brakes on tank cars used to move ﬂammable liquids, advocated The CBSA is also working on similar requirements for Canada- speciﬁc increases in federal tank car speciﬁcations, requested bound trafﬁc. that crude oil routing information not be disclosed to State (d) Inspection for imported fruits and vegetables grown in Canada Emergency Response Commissions, and urged a requirement for and the agricultural quarantine and inspection (AQI) user fee the aggressive retroﬁt or phase out of existing ﬂammable liquid for all trafﬁc entering the U.S. from Canada. tank cars as soon as possible while still enabling the industry to (e) Gamma ray screening of cargo entering the U.S. from Canada, meet the demands for rail movement of ﬂammable liquids. and potential security and agricultural inspections at the Canada/U.S. border. 52 2014 Annual Report U.S. GAAP Canadian National Railway Company Management’s Discussion and Analysis The Company has worked with the AAR to develop and put in Economic conditions place an extensive industry-wide security plan to address terror- The Company, like other railroads, is susceptible to changes in ism and security-driven efforts by state and local governments the economic conditions of the industries and geographic areas seeking to restrict the routings of certain hazardous materials. that produce and consume the freight it transports or the sup- If such state and local routing restrictions were to go into force, plies it requires to operate. In addition, many of the goods and they would be likely to add to security concerns by foreclosing the commodities carried by the Company experience cyclicality in Company’s most optimal and secure transportation routes, leading demand. Many of the bulk commodities the Company transports to increased yard handling, longer hauls, and the transfer of trafﬁc move offshore and are affected more by global rather than North to lines less suitable for moving hazardous materials, while also American economic conditions. Adverse North American and infringing upon the exclusive and uniform federal oversight over global economic conditions, or economic or industrial restructur- railroad security matters. ing, that affect the producers and consumers of the commodities carried by the Company, including customer insolvency, may Transportation of hazardous materials have a material adverse effect on the volume of rail shipments The Company may be required to transport toxic inhalation haz- and/or revenues from commodities carried by the Company, and ard materials as a result of its common carrier obligations and, as thus materially and negatively affect its results of operations, such, is exposed to additional regulatory oversight. ﬁnancial position, or liquidity. (a) The PHMSA requires carriers operating in the U.S. to report annually the volume and route-speciﬁc data for cars con- Pension funding volatility taining these commodities; conduct a safety and security risk The Company’s funding requirements for its deﬁned beneﬁt analysis for each used route; identify a commercially practic- pension plans are determined using actuarial valuations. See the able alternative route for each used route; and select for use section of this MD&A entitled Critical accounting estimates – the practical route posing the least safety and security risk. Pensions and other postretirement beneﬁts for information (b) The TSA requires rail carriers to provide upon request, within relating to the funding of the Company’s deﬁned beneﬁt pension ﬁve minutes for a single car and 30 minutes for multiple cars, plans. location and shipping information on cars on their networks Adverse changes with respect to pension plan returns and containing toxic inhalation hazard materials and certain radio- the level of interest rates from the date of the last actuarial valu- active or explosive materials; and ensure the secure, attended ations as well as changes to existing federal pension legislation transfer of all such cars to and from shippers, receivers and may signiﬁcantly impact future pension contributions and have other carriers that will move from, to, or through designated a material adverse effect on the funding status of the plans and high-threat urban areas. the Company’s results of operations. There can be no assurance (c) The PHMSA has issued regulations to enhance the crash- that the Company’s pension expense and funding of its deﬁned worthiness protection of tank cars used to transport toxic in- beneﬁt pension plans will not increase in the future and thereby halation hazard materials and to limit the operating conditions negatively impact earnings and/or cash ﬂow. of such cars. (d) In Canada, the Transportation of Dangerous Goods Act es- Trade restrictions tablishes the safety requirements for the transportation of Global as well as North American trade conditions, including goods classiﬁed as dangerous and enables the establishment trade barriers on certain commodities, may interfere with the of regulations for security training and screening of personnel free circulation of goods across Canada and the U.S. working with dangerous goods, as well as the development of a program to require a transportation security clearance Terrorism and international conﬂicts for dangerous goods and that dangerous goods be tracked Potential terrorist actions can have a direct or indirect impact on during transport. the transportation infrastructure, including railway infrastructure in North America, and can interfere with the free ﬂow of goods. While the Company will continue to work closely with the CBSA, Rail lines, facilities and equipment could be directly targeted or CBP, and other Canadian and U.S. agencies, as described above, become indirect casualties, which could interfere with the free no assurance can be given that these and future decisions by the ﬂow of goods. International conﬂicts can also have an impact on U.S., Canadian, provincial, state, or local governments on home- the Company’s markets. Government response to such events land security matters, legislation on security matters enacted by could adversely affect the Company’s operations. Insurance pre- the U.S. Congress or Parliament, or joint decisions by the industry miums could also increase signiﬁcantly or coverage could become in response to threats to the North American rail network, will not unavailable. materially adversely affect the Company’s results of operations, or its competitive and ﬁnancial position. Canadian National Railway Company U.S. GAAP 2014 Annual Report 53 Management’s Discussion and Analysis Customer credit risk Fuel costs In the normal course of business, the Company monitors the ﬁ- The Company, like other railroads, is susceptible to the volatility nancial condition and credit limits of its customers and reviews of fuel prices due to changes in the economy or supply disrup- the credit history of each new customer. Although the Company tions. Fuel shortages can occur due to reﬁnery disruptions, pro- believes there are no signiﬁcant concentrations of credit risk, eco- duction quota restrictions, climate, and labor and political instab- nomic conditions can affect the Company’s customers and can ility. Increases in fuel prices or supply disruptions may materially result in an increase to the Company’s credit risk and exposure to adversely affect the Company’s results of operations, ﬁnancial the business failures of its customers. A widespread deterioration position or liquidity. of customer credit and business failures of customers could have a material adverse effect on the Company’s results of operations, Foreign exchange ﬁnancial position or liquidity. Liquidity The Company conducts its business in both Canada and the U.S. and as a result, is affected by currency ﬂuctuations. Changes in the exchange rate between the Canadian dollar and other Disruptions in the ﬁnancial markets or deterioration of the currencies (including the US dollar) make the goods transported Company’s credit ratings could hinder the Company’s access to by the Company more or less competitive in the world market- external sources of funding to meet its liquidity needs. There can place and thereby may adversely affect the Company’s revenues be no assurance that changes in the ﬁnancial markets will not and expenses. have a negative effect on the Company’s liquidity and its access to capital at acceptable rates. Interest rate Supplier concentration The Company is exposed to interest rate risk relating to the Company’s long-term debt. The Company mainly issues ﬁxed- The Company operates in a capital-intensive industry where the rate debt, which exposes the Company to variability in the fair complexity of rail equipment limits the number of suppliers avail- value of the debt. The Company also issues debt with variable able. The supply market could be disrupted if changes in the econ- interest rates, which exposes the Company to variability in in- omy caused any of the Company’s suppliers to cease production terest expense. Adverse changes to market interest rates may or to experience capacity or supply shortages. This could also result signiﬁcantly impact the fair value or future cash ﬂows of the in cost increases to the Company and difﬁculty in obtaining and Company’s ﬁnancial instruments. There can be no assurance that maintaining the Company’s rail equipment and materials. Since changes in the market interest rates will not have a negative ef- the Company also has foreign suppliers, international relations, fect on the Company’s liquidity. trade restrictions and global economic and other conditions may potentially interfere with the Company’s ability to procure neces- Reliance on technology sary equipment. Widespread business failures of, or restrictions on The Company relies on information technology in all aspects of suppliers, could have a material adverse effect on the Company’s its business. While the Company has business continuity and results of operations or ﬁnancial position. disaster recovery plans, as well as other mitigation programs in Availability of qualiﬁed personnel place, a cyber security attack and signiﬁcant disruption or failure of its information technology and communications systems could The Company, like other companies in North America, may ex- result in service interruptions, safety failures, security violations, perience demographic challenges in the employment levels of regulatory compliance failures or other operational difﬁculties its workforce. Changes in employee demographics, training re- and compromise corporate information and assets against in- quirements and the availability of qualiﬁed personnel, particularly truders and, as such, could adversely affect the Company’s re- locomotive engineers and trainmen, could negatively impact the sults of operations, ﬁnancial position or liquidity. If the Company Company’s ability to meet demand for rail service. The Company is unable to acquire or implement new technology, it may suffer expects that approximately 30% of its workforce will be eligible to a competitive disadvantage, which could also have an adverse retire or leave through normal attrition (death, termination, resig- effect on the Company’s results of operations, ﬁnancial position nation) within the next ﬁve-year period. The Company monitors or liquidity. employment levels and seeks to ensure that there is an adequate supply of personnel to meet rail service requirements. However, the Company’s efforts to attract and retain qualiﬁed personnel may be hindered by speciﬁc conditions in the job market. No as- surance can be given that demographic or other challenges will not materially adversely affect the Company’s results of operations or its ﬁnancial position. 54 2014 Annual Report U.S. GAAP Canadian National Railway Company Management’s Discussion and Analysis Transportation network disruptions Controls and procedures Due to the integrated nature of the North American freight The Company’s Chief Executive Ofﬁcer and its Chief Financial transportation infrastructure, the Company’s operations may be Ofﬁcer, after evaluating the effectiveness of the Company’s “dis- negatively affected by service disruptions of other transportation closure controls and procedures” (as deﬁned in Exchange Act links such as ports and other railroads which interchange with Rules 13a-15(e) and 15d-15(e)) as of December 31, 2014, have the Company. A signiﬁcant prolonged service disruption of one concluded that the Company’s disclosure controls and procedures or more of these entities could have an adverse effect on the were effective. Company’s results of operations, ﬁnancial position or liquidity. During the fourth quarter ended December 31, 2014, there was Furthermore, deterioration in the cooperative relationships with no change in the Company’s internal control over ﬁnancial report- the Company’s connecting carriers could directly affect the ing that has materially affected, or is reasonably likely to materially Company’s operations. Weather and climate change affect, the Company’s internal control over ﬁnancial reporting. As of December 31, 2014, management has assessed the ef- fectiveness of the Company’s internal control over ﬁnancial report- The Company’s success is dependent on its ability to operate its ing using the criteria set forth by the Committee of Sponsoring railroad efﬁciently. Severe weather and natural disasters, such as Organizations of the Treadway Commission (COSO) in Internal extreme cold or heat, ﬂooding, drought, hurricanes and earth- Control – Integrated Framework (2013). Based on this assess- quakes, can disrupt operations and service for the railroad, affect ment, management has determined that the Company’s internal the performance of locomotives and rolling stock, as well as dis- control over ﬁnancial reporting was effective as of December 31, rupt operations for both the Company and its customers. Climate 2014, and issued Management’s Report on Internal Control over change, including the impact of global warming, has the poten- Financial Reporting dated February 2, 2015 to that effect. tial physical risk of increasing the frequency of adverse weather events, which can disrupt the Company’s operations, damage its The Company’s 2014 Annual Information Form (AIF) and Form infrastructure or properties, or otherwise have a material adverse 40-F, may be found on SEDAR at www.sedar.com and on EDGAR effect on the Company’s results of operations, ﬁnancial position at www.sec.gov, respectively. Copies of such documents, as or liquidity. In addition, although the Company believes that well as the Company’s Notice of Intention to Make a Normal the growing support for climate change legislation is likely to Course Issuer Bid, may be obtained by contacting the Corporate result in changes to the regulatory framework in Canada and Secretary’s ofﬁce. the U.S., it is too early to predict the manner or degree of such impact on the Company at this time. Restrictions, caps, taxes, Montreal, Canada or other controls on emissions of greenhouse gasses, including February 2, 2015 diesel exhaust, could signiﬁcantly increase the Company’s capital and operating costs or affect the markets for, or the volume of, the goods the Company carries thereby resulting in a material adverse effect on operations, ﬁnancial position, results of oper- ations or liquidity. More speciﬁcally, climate change legislation and regulation could affect CN’s utility coal customers due to coal capacity being replaced with natural gas generation and re- newable energy; make it difﬁcult for CN’s customers to produce products in a cost-competitive manner due to increased energy costs; and increase legal costs related to defending and resolving legal claims and other litigation related to climate change. Canadian National Railway Company U.S. GAAP 2014 Annual Report 55 Management’s Report on Internal Control Report of Independent Registered Public Accounting Firm over Financial Reporting Management is responsible for establishing and maintaining ad- To the Shareholders and Board of Directors of the equate internal control over ﬁnancial reporting. Internal control Canadian National Railway Company over ﬁnancial reporting is a process designed to provide reason- able assurance regarding the reliability of ﬁnancial reporting and We have audited the accompanying consolidated balance sheets the preparation of ﬁnancial statements for external purposes in ac- of the Canadian National Railway Company (the “Company”) cordance with generally accepted accounting principles. Because as of December 31, 2014 and 2013, and the related consolidat- of its inherent limitations, internal control over ﬁnancial reporting ed statements of income, comprehensive income, changes in may not prevent or detect misstatements. shareholders’ equity and cash ﬂows for each of the years in the Management has assessed the effectiveness of the Company’s three-year period ended December 31, 2014. These consolidat- internal control over ﬁnancial reporting as of December 31, 2014 ed ﬁnancial statements are the responsibility of the Company’s using the criteria set forth by the Committee of Sponsoring management. Our responsibility is to express an opinion on these Organizations of the Treadway Commission (COSO) in Internal consolidated ﬁnancial statements based on our audits. Control – Integrated Framework (2013). Based on this assessment, We conducted our audits in accordance with Canadian gener- management has determined that the Company’s internal control ally accepted auditing standards and the standards of the Public over ﬁnancial reporting was effective as of December 31, 2014. Company Accounting Oversight Board (United States). Those KPMG LLP, an independent registered public accounting standards require that we plan and perform the audit to obtain ﬁrm, has issued an unqualiﬁed audit report on the effectiveness reasonable assurance about whether the ﬁnancial statements are of the Company’s internal control over ﬁnancial reporting as of free of material misstatement. An audit includes examining, on December 31, 2014 and has also expressed an unqualiﬁed audit a test basis, evidence supporting the amounts and disclosures opinion on the Company’s 2014 consolidated ﬁnancial state- in the ﬁnancial statements. An audit also includes assessing the ments as stated in their Reports of Independent Registered Public accounting principles used and signiﬁcant estimates made by Accounting Firm dated February 2, 2015. management, as well as evaluating the overall ﬁnancial statement Claude Mongeau President and Chief Executive Ofﬁcer presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated ﬁnancial statements referred to above present fairly, in all material respects, the consolidated ﬁnancial position of the Company as of December 31, 2014 and 2013, and its consolidated results of operations and its consolidat- ed cash ﬂows for each of the years in the three-year period ended December 31, 2014, in conformity with United States generally February 2, 2015 accepted accounting principles. Luc Jobin Executive Vice-President and Chief Financial Ofﬁcer February 2, 2015 We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the Company’s internal control over ﬁnancial reporting as of December 31, 2014, based on the criteria established in Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”), and our report dated February 2, 2015 expressed an unqualiﬁed opinion on the effectiveness of the Company’s internal control over ﬁnancial reporting. KPMG LLP* Montreal, Canada February 2, 2015 * FCPA auditor, FCA, public accountancy permit No. A106087 KPMG LLP is a Canadian limited liability partnership and a member ﬁrm of the KPMG network of independent member ﬁrms afﬁliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. 56 2014 Annual Report U.S. GAAP Canadian National Railway Company Report of Independent Registered Public Accounting Firm To the Shareholders and Board of Directors of the reporting includes those policies and procedures that (1) pertain to Canadian National Railway Company the maintenance of records that, in reasonable detail, accurately and fairly reﬂect the transactions and dispositions of the assets of We have audited the Canadian National Railway Company’s the company; (2) provide reasonable assurance that transactions (the “Company”) internal control over ﬁnancial reporting as of are recorded as necessary to permit preparation of ﬁnancial state- December 31, 2014, based on criteria established in Internal ments in accordance with generally accepted accounting princi- Control – Integrated Framework (2013) issued by the Committee ples, and that receipts and expenditures of the company are being of Sponsoring Organizations of the Treadway Commission made only in accordance with authorizations of management and (“COSO”). The Company’s management is responsible for main- directors of the company; and (3) provide reasonable assurance taining effective internal control over ﬁnancial reporting, and for regarding prevention or timely detection of unauthorized acquisi- its assessment of the effectiveness of internal control over ﬁnancial tion, use, or disposition of the company’s assets that could have a reporting included in the accompanying Management’s Report on material effect on the ﬁnancial statements. Internal Control over Financial Reporting. Our responsibility is to Because of its inherent limitations, internal control over ﬁ- express an opinion on the Company’s internal control over ﬁnan- nancial reporting may not prevent or detect misstatements. Also, cial reporting based on our audit. projections of any evaluation of effectiveness to future periods are We conducted our audit in accordance with the standards of subject to the risk that controls may become inadequate because the Public Company Accounting Oversight Board (United States). of changes in conditions, or that the degree of compliance with Those standards require that we plan and perform the audit to ob- the policies or procedures may deteriorate. tain reasonable assurance about whether effective internal control In our opinion, the Company maintained, in all material re- over ﬁnancial reporting was maintained in all material respects. spects, effective internal control over ﬁnancial reporting as of Our audit included obtaining an understanding of internal control December 31, 2014, based on criteria established in Internal over ﬁnancial reporting, assessing the risk that a material weak- Control – Integrated Framework (2013) issued by the COSO. ness exists, and testing and evaluating the design and operating We also have audited, in accordance with Canadian gener- effectiveness of internal control based on the assessed risk. Our ally accepted auditing standards and the standards of the Public audit also included performing such other procedures as we con- Company Accounting Oversight Board (United States), the con- sidered necessary in the circumstances. We believe that our audit solidated balance sheets of the Company as of December 31, provides a reasonable basis for our opinion. 2014 and 2013, and the related consolidated statements of A company’s internal control over ﬁnancial reporting is a pro- income, comprehensive income, changes in shareholders’ equity cess designed to provide reasonable assurance regarding the reli- and cash ﬂows for each of the years in the three-year period end- ability of ﬁnancial reporting and the preparation of ﬁnancial state- ed December 31, 2014, and our report dated February 2, 2015 ments for external purposes in accordance with generally accepted expressed an unqualiﬁed opinion on those consolidated ﬁnancial accounting principles. A company’s internal control over ﬁnancial statements. KPMG LLP* Montreal, Canada February 2, 2015 * FCPA auditor, FCA, public accountancy permit No. A106087 KPMG LLP is a Canadian limited liability partnership and a member ﬁrm of the KPMG network of independent member ﬁrms afﬁliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. Canadian National Railway Company U.S. GAAP 2014 Annual Report 57 Consolidated Statement of Income In millions, except per share data Year ended December 31, 2014 2013 2012 Revenues Operating expenses Labor and fringe beneﬁts Purchased services and material Fuel Depreciation and amortization Equipment rents Casualty and other Total operating expenses Operating income Interest expense Other income (Note 3) Income before income taxes Income tax expense (Note 4) Net income Earnings per share (Note 5) Basic Diluted Weighted-average number of shares (Note 5) Basic Diluted See accompanying notes to consolidated ﬁnancial statements. $ 12,134 $ 10,575 $ 9,920 2,319 2,182 1,952 1,598 1,351 1,248 1,846 1,619 1,524 1,050 329 368 980 275 295 924 249 338 7,510 6,702 6,235 4,624 3,873 3,685 (371) (357) 107 73 (342) 315 4,360 3,589 3,658 (1,193) (977) (978) $ 3,167 $ 2,612 $ 2,680 $ 3.86 $ 3.10 $ 3.08 $ 3.85 $ 3.09 $ 3.06 819.9 843.1 871.1 823.5 846.1 875.4 58 2014 Annual Report U.S. GAAP Canadian National Railway Company Consolidated Statement of Comprehensive Income In millions Net income Other comprehensive income (loss) (Note 15) Net gain (loss) on foreign currency translation Net change in pension and other postretirement beneﬁt plans (Note 12) Amortization of gain on treasury lock Other comprehensive income (loss) before income taxes Income tax recovery (expense) Other comprehensive income (loss) Comprehensive income See accompanying notes to consolidated ﬁnancial statements. Year ended December 31, 2014 2013 2012 $ 3,167 $ 2,612 $ 2,680 75 46 (995) 1,775 (1) - (921) 1,821 344 (414) (577) 1,407 (5) (540) - (545) 127 (418) $ 2,590 $ 4,019 $ 2,262 Canadian National Railway Company U.S. GAAP 2014 Annual Report 59 Consolidated Balance Sheet In millions Assets Current assets Cash and cash equivalents Restricted cash and cash equivalents (Note 10) Accounts receivable (Note 6) Material and supplies Deferred and receivable income taxes (Note 4) Other Total current assets Properties (Note 7) Pension asset (Note 12) Intangible and other assets (Note 8) Total assets Liabilities and shareholders’ equity Current liabilities Accounts payable and other (Note 9) Current portion of long-term debt (Note 10) Total current liabilities Deferred income taxes (Note 4) Other liabilities and deferred credits (Note 11) Pension and other postretirement beneﬁts (Note 12) Long-term debt (Note 10) Shareholders’ equity Common shares (Note 13) Additional paid-in capital (Note 13) Accumulated other comprehensive loss (Note 15) Retained earnings Total shareholders’ equity Total liabilities and shareholders’ equity See accompanying notes to consolidated ﬁnancial statements. On behalf of the Board: Robert Pace Director December 31, 2014 2013 $ 52 $ 463 928 335 163 125 214 448 815 274 137 89 2,066 1,977 28,514 26,227 882 330 1,662 297 $ 31,792 $ 30,163 $ 1,657 $ 1,477 544 2,201 1,021 2,498 6,902 6,537 704 650 815 541 7,865 6,819 3,718 3,795 439 220 (2,427) (1,850) 11,740 10,788 13,470 12,953 $ 31,792 $ 30,163 Claude Mongeau Director 60 2014 Annual Report U.S. GAAP Canadian National Railway Company Consolidated Statement of Changes in Shareholders’ Equity Issued and Common Accumulated outstanding shares and other Total common shares additional comprehensive Retained shareholders’ In millions (Note 13) paid-in capital loss earnings equity Balance at December 31, 2011 884.2 $ 4,141 $ (2,839) $ 9,378 $ 10,680 Net income Stock-based compensation and other (Notes 13, 14) Share repurchase programs (Note 13) Other comprehensive loss (Note 15) Dividends ($0.75 per share) 6.4 (33.8) 128 (161) 2,680 2,680 128 (1,239) (1,400) (652) (418) (652) (418) Balance at December 31, 2012 856.8 4,108 (3,257) 10,167 11,018 Net income Stock-based compensation and other (Notes 13, 14) Share repurchase programs (Note 13) Other comprehensive income (Note 15) Dividends ($0.86 per share) 1.4 (27.6) 40 (133) 2,612 2,612 40 (1,267) (1,400) 1,407 1,407 (724) (724) Balance at December 31, 2013 830.6 4,015 (1,850) 10,788 12,953 Net income Stock-based compensation and other (Notes 13, 14) Share repurchase programs (Note 13) Other comprehensive loss (Note 15) Dividends ($1.00 per share) 1.2 (22.4) 250 (108) 3,167 3,167 250 (1,397) (1,505) (818) (577) (818) (577) Balance at December 31, 2014 809.4 $ 4,157 $ (2,427) $ 11,740 $ 13,470 See accompanying notes to consolidated ﬁnancial statements. Canadian National Railway Company U.S. GAAP 2014 Annual Report 61 Consolidated Statement of Cash Flows In millions Operating activities Net income Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization Deferred income taxes (Note 4) Gain on disposal of property (Note 3) Changes in operating assets and liabilities: Accounts receivable Material and supplies Accounts payable and other Other current assets Pensions and other, net Year ended December 31, 2014 2013 2012 $ 3,167 $ 2,612 $ 2,680 1,050 416 (80) (59) (51) - 5 (67) 980 331 (69) 32 (38) (245) 13 (68) 924 451 (281) (20) (30) 129 (13) (780) Net cash provided by operating activities 4,381 3,548 3,060 Investing activities Property additions Disposal of property (Note 3) Change in restricted cash and cash equivalents Other, net Net cash used in investing activities Financing activities Issuance of debt (Note 10) Repayment of debt (Note 10) Net issuance (repayment) of commercial paper (Note 10) Issuance of common shares due to exercise of stock options and related excess tax beneﬁts realized (Note 14) Repurchase of common shares (Note 13) Dividends paid Net cash used in ﬁnancing activities Effect of foreign exchange ﬂuctuations on US dollar-denominated cash and cash equivalents Net increase (decrease) in cash and cash equivalents Cash and cash equivalents, beginning of year Cash and cash equivalents, end of year Supplemental cash ﬂow information Net cash receipts from customers and other Net cash payments for: Employee services, suppliers and other expenses Interest Personal injury and other claims (Note 16) Pensions (Note 12) Income taxes (Note 4) Net cash provided by operating activities See accompanying notes to consolidated ﬁnancial statements. (2,297) (1,973) (1,731) 173 (15) (37) 52 73 (4) 311 (22) 21 (2,176) (1,852) (1,421) 1,022 1,582 (822) (1,413) (277) 268 493 (58) (82) 30 31 117 (1,505) (1,400) (1,400) (818) (724) (652) (2,370) (1,656) (1,582) 3 (162) 214 19 59 155 (3) 54 101 $ 52 $ 214 $ 155 $ 12,029 $ 10,640 $ 9,877 (6,333) (5,558) (5,241) (409) (57) (127) (722) (344) (61) (239) (890) (364) (79) (844) (289) $ 4,381 $ 3,548 $ 3,060 62 2014 Annual Report U.S. GAAP Canadian National Railway Company Notes to Consolidated Financial Statements Canadian National Railway Company, together with its wholly-owned subsidiaries, collectively “CN” or “the Company,” is engaged in the rail and related transportation business. CN spans Canada and mid-America, from the Atlantic and Paciﬁc oceans to the Gulf of Mexico, serving the ports of Vancouver, Prince Rupert (British Columbia), Montreal, Halifax, New Orleans and Mobile (Alabama), and the key metropolitan areas of Toronto, Buffalo, Chicago, Detroit, Duluth (Minnesota)/Superior (Wisconsin), Green Bay (Wisconsin), Minneapolis/St. Paul, Memphis, and Jackson (Mississippi), with connections to all points in North America. CN’s freight revenues are derived from the movement of a diversi- ﬁed and balanced portfolio of goods, including petroleum and chemicals, grain and fertilizers, coal, metals and minerals, forest products, intermodal and automotive. 1 Summary of signiﬁcant accounting policies Income taxes Basis of presentation The Company follows the asset and liability method of account- ing for income taxes. Under the asset and liability method, the These consolidated ﬁnancial statements are expressed in Canadian change in the net deferred income tax asset or liability is included dollars, except where otherwise indicated, and have been prepared in the computation of Net income or Other comprehensive in- in accordance with United States generally accepted accounting come (loss). Deferred income tax assets and liabilities are meas- principles (U.S. GAAP) as codiﬁed in the Financial Accounting ured using enacted tax rates expected to apply to taxable income Standards Board (FASB) Accounting Standards Codiﬁcation (ASC). in the years in which temporary differences are expected to be Principles of consolidation These consolidated ﬁnancial statements include the accounts of all Earnings per share recovered or settled. subsidiaries and variable interest entities for which the Company Basic earnings per share are calculated based on the weighted- is the primary beneﬁciary. The Company is the primary beneﬁciary average number of common shares outstanding over each per- of the Employee Beneﬁt Plan Trusts (the “Share Trusts”) as the iod. The weighted-average number of basic shares outstanding Company funds and directs the activities of the Share Trusts. The excludes shares held in the Share Trusts and includes fully vested Company’s investments in which it has signiﬁcant inﬂuence are equity settled stock-based compensation awards excluding stock accounted for using the equity method and all other investments options. Diluted earnings per share are calculated based on the are accounted for using the cost method. weighted-average number of diluted shares outstanding using the Use of estimates treasury stock method. Included in the diluted earnings per share calculation are the assumed issuances of non-vested stock-based The preparation of ﬁnancial statements in conformity with U.S. compensation awards. GAAP requires management to make estimates and assumptions that affect the reported amounts of revenues, expenses, assets Foreign currency and liabilities, and the disclosure of contingent assets and liabil- All of the Company’s operations in the United States (U.S.) are ities at the date of the ﬁnancial statements. On an ongoing basis, foreign entities with the US dollar as their functional currency. management reviews its estimates, including those related to Accordingly, the U.S. operations’ assets and liabilities are translat- income taxes, depreciation, pensions and other postretirement ed into Canadian dollars at the rate in effect at the balance sheet beneﬁts, personal injury and other claims, and environmental mat- date and the revenues and expenses are translated at average ters, based upon available information. Actual results could differ exchange rates during the year. All adjustments resulting from the from these estimates. translation of the foreign operations are recorded in Other com- prehensive income (loss). Revenues The Company designates the US dollar-denominated long-term Freight revenues are recognized using the percentage of com- debt of the parent company as a foreign currency hedge of its pleted service method based on the transit time of freight as it net investment in U.S. subsidiaries. Accordingly, foreign exchange moves from origin to destination. The allocation of revenues be- gains and losses, from the dates of designation, on the translation tween reporting periods is based on the relative transit time in of the US dollar-denominated long-term debt are also included in each period with expenses being recorded as incurred. Revenues Other comprehensive income (loss). related to non-rail transportation services are recognized as service is performed or as contractual obligations are met. Revenues are presented net of taxes collected from customers and remitted to governmental authorities. Canadian National Railway Company U.S. GAAP 2014 Annual Report 63 Notes to Consolidated Financial Statements 1 Summary of signiﬁcant accounting policies continued Cash and cash equivalents capital programs qualify for capitalization. For Track and road- way properties, the Company establishes basic capital programs to replace or upgrade the track infrastructure assets which are capitalized if they meet the capitalization criteria. Cash and cash equivalents include highly liquid investments pur- chased three months or less from maturity and are stated at cost, In addition, for Track and roadway properties, expenditures that meet the minimum level of activity as deﬁned by the which approximates market value. Company are also capitalized as follows: • Grading: installation of road bed, retaining walls, drainage Restricted cash and cash equivalents structures; The Company has the option, under its bilateral letter of cred- • Rail and related track material: installation of 39 or more con- it facility agreements with various banks, to pledge collateral in tinuous feet of rail; the form of cash and cash equivalents for a minimum term of • Ties: installation of 5 or more ties per 39 feet; one month, equal to at least the face value of the letters of credit issued. Restricted cash and cash equivalents are shown separately on the balance sheet and include highly liquid investments pur- chased three months or less from maturity and are stated at cost, which approximates market value. Accounts receivable Accounts receivable are recorded at cost net of billing adjust- ments and an allowance for doubtful accounts. The allowance for doubtful accounts is based on expected collectability and consid- ers historical experience as well as known trends or uncertainties • Ballast: installation of 171 cubic yards of ballast per mile. For purchased assets, the Company capitalizes all costs neces- sary to make the asset ready for its intended use. Expenditures that are capitalized as part of self-constructed properties include direct material, labor, and contracted services, as well as other allocated costs which are not charged directly to capital projects. These allocated costs include, but are not limited to, fringe bene- ﬁts, small tools and supplies, maintenance on equipment used on projects and project supervision. The Company reviews and adjusts its allocations, as required, to reﬂect the actual costs in- related to account collectability. When a receivable is deemed curred each year. uncollectible, it is written off against the allowance for doubtful accounts. Subsequent recoveries of amounts previously written off are credited to bad debt expense in Casualty and other in the Consolidated Statement of Income. Material and supplies Material and supplies, which consist mainly of rail, ties, and other items for construction and maintenance of property and equip- ment, as well as diesel fuel, are valued at weighted-average cost. Properties Accounting policy for capitalization of costs The Company’s railroad operations are highly capital intensive. The Company’s properties mainly consist of homogeneous or network-type assets such as rail, ties, ballast and other struc- tures, which form the Company’s Track and roadway properties, and Rolling stock. The Company’s capital expenditures are for the replacement of existing assets and for the purchase or construc- For the rail asset, the Company capitalizes the costs of rail grinding which consists of restoring and improving the rail proﬁle and removing irregularities from worn rail to extend the service life. The service life of the rail asset is increased incrementally as rail grinding is performed thereon, and as such, the costs incurred are capitalized given that the activity extends the service life of the rail asset beyond its original or current condition as additional gross tons can be carried over the rail for its remaining service life. For the ballast asset, the Company engages in shoulder ballast undercutting that consists of removing some or all of the ballast, which has deteriorated over its service life, and replacing it with new ballast. When ballast is installed as part of a shoulder ballast undercutting project, it represents the addition of a new asset and not the repair or maintenance of an existing asset. As such, the Company capitalizes expenditures related to shoulder ballast undercutting given that an existing asset is retired and replaced with a new asset. Under the group method of accounting for properties, the deteriorated ballast is retired at its average cost tion of new assets to enhance operations or provide new service measured using the quantities of new ballast added. offerings to customers. A large portion of the Company’s capital expenditures are for self-constructed properties including the replacement of existing track and roadway assets and track line expansion, as well as major overhauls and large refurbishments of rolling stock. Expenditures are generally capitalized if they extend the life of the asset or provide future beneﬁts such as increased revenue- generating capacity, functionality, or physical or service capacity. Costs of deconstruction and removal of replaced assets, re- ferred to herein as dismantling costs, are distinguished from instal- lation costs for self-constructed properties based on the nature of the related activity. For Track and roadway properties, employees concurrently perform dismantling and installation of new track and roadway assets and, as such, the Company estimates the amount of labor and other costs that are related to dismantling. The Company determines dismantling costs based on an analysis The Company has a process in place to determine whether its of the track and roadway installation process. 64 2014 Annual Report U.S. GAAP Canadian National Railway Company Notes to Consolidated Financial Statements Expenditures relating to the Company’s properties that do not Intangible assets meet the Company’s capitalization criteria are considered normal Intangible assets consist mainly of customer contracts and re- repairs and maintenance and are expensed. For Track and road- lationships assumed through past acquisitions and are being way properties, such expenditures include but are not limited to amortized on a straight-line basis over 40 to 50 years. spot tie replacement, spot or broken rail replacement, physical The Company reviews the carrying amounts of intangible track inspection for detection of rail defects and minor track cor- assets held and used whenever events or changes in circum- rections, and other general maintenance of track infrastructure. stances indicate that such carrying amounts may not be recover- Accounting policy for depreciation able based on future undiscounted cash ﬂows. Assets that are deemed impaired as a result of such review are recorded at the Railroad properties are carried at cost less accumulated deprecia- lower of carrying amount or fair value. tion including asset impairment write-downs. The cost of proper- ties, including those under capital leases, net of asset impairment Accounts receivable securitization write-downs, is depreciated on a straight-line basis over their The Company accounts for its accounts receivable securitization estimated service lives, measured in years, except for rail which program under FASB ASC 860, Transfers and Servicing. Based is measured in millions of gross ton miles. The Company follows on the structure of the program, the Company accounts for the the group method of depreciation whereby a single composite proceeds as a secured borrowing. depreciation rate is applied to the gross investment in a class of similar assets, despite small differences in the service life or Pensions salvage value of individual property units within the same asset Pension costs are determined using actuarial methods. Net per- class. The Company uses approximately 40 different depreciable iodic beneﬁt cost is charged to income and includes: asset classes. (a) the cost of pension beneﬁts provided in exchange for employ- For all depreciable assets, the depreciation rate is based on ees’ services rendered during the year; the estimated service lives of the assets. Assessing the reason- (b) the interest cost of pension obligations; ableness of the estimated service lives of properties requires (c) the expected long-term return on pension fund assets; judgment and is based on currently available information, includ- (d) the amortization of prior service costs and amendments over ing periodic depreciation studies conducted by the Company. the expected average remaining service life of the employee The Company’s U.S. properties are subject to comprehensive group covered by the plans; and depreciation studies as required by the Surface Transportation (e) the amortization of cumulative net actuarial gains and losses Board (STB) and are conducted by external experts. Depreciation in excess of 10% of the greater of the beginning of year bal- studies for Canadian properties are not required by regulation ances of the projected beneﬁt obligation or market-related and are conducted internally. Studies are performed on speciﬁc value of plan assets, over the expected average remaining asset groups on a periodic basis. Changes in the estimated ser- service life of the employee group covered by the plans. vice lives of the assets and their related composite depreciation rates are implemented prospectively. The pension plans are funded through contributions deter- The service life of the rail asset is based on expected future mined in accordance with the projected unit credit actuarial cost usage of the rail in its existing condition, determined using rail- method. road industry research and testing (based on rail characteristics such as weight, curvature and metallurgy), less the rail asset’s Postretirement beneﬁts other than pensions usage to date. The annual composite depreciation rate for rail The Company accrues the cost of postretirement beneﬁts other assets is determined by dividing the estimated annual number than pensions using actuarial methods. These beneﬁts, which of gross tons carried over the rail by the estimated service life of are funded as they become due, include life insurance programs, the rail measured in millions of gross ton miles. The Company medical beneﬁts and, for a closed group of employees, free rail amortizes the cost of rail grinding over the remaining life of the travel beneﬁts. rail asset, which includes the incremental life extension generat- The Company amortizes the cumulative net actuarial gains ed by rail grinding. and losses in excess of 10% of the projected beneﬁt obligation at the beginning of the year, over the expected average remaining service life of the employee group covered by the plan. Canadian National Railway Company U.S. GAAP 2014 Annual Report 65 Notes to Consolidated Financial Statements 1 Summary of signiﬁcant accounting policies continued Stock-based compensation Stock-based compensation costs are determined using a fair value based approach and are charged to income over the period during which an employee is required to provide service in exchange for an award (requisite service period). For cash settled awards, stock- based compensation costs are accrued over the requisite service Derivative ﬁnancial instruments The Company uses derivative ﬁnancial instruments from time to time in the management of its interest rate and foreign currency exposures. Derivative instruments are recorded on the balance sheet at fair value and the changes in fair value are recorded in Net income or Other comprehensive income (loss) depending on the nature and effectiveness of the hedge transaction. Income and expense related to hedged derivative ﬁnancial instruments are recorded in the same category as that generated by the period based on the fair value of the awards at period-end. For underlying asset or liability. equity settled awards, stock-based compensation costs are ac- crued over the requisite service period based on the fair value of the awards at grant date. The fair value of stock option awards is determined using the Black-Scholes option-pricing model. The fair value of performance share unit (PSU) awards is determined using a lattice-based model. The fair value of deferred share unit (DSU) awards is determined using an intrinsic value model. Personal injury and other claims In Canada, the Company accounts for costs related to employee work-related injuries based on actuarially developed estimates on a discounted basis of the ultimate cost associated with such injuries, including compensation, health care and third-party ad- ministration costs. In the U.S., the Company accrues the expected cost for personal injury, property damage and occupational disease claims, based on actuarial estimates of their ultimate cost on an undiscounted basis. For all other legal actions in Canada and the U.S., the Company maintains, and regularly updates on a case-by-case basis, provisions for such items when the expected loss is both probable and can 2 Recent accounting pronouncement On May 28, 2014, the FASB issued Accounting Standards Update (ASU) 2014-09, Revenue from Contracts with Customers, which establishes principles for reporting the nature, amount, timing and uncertainty of revenues and cash ﬂows arising from an en- tity’s contracts with customers. The core principle of the new standard is that an entity recognizes revenue to represent the transfer of goods or services to customers in an amount that reﬂects the consideration to which the entity expects to be entitled in exchange for those goods or services. This standard is effective for annual and interim reporting periods beginning after December 15, 2016 and will replace most existing revenue recognition guidance within U.S. GAAP. Early adoption is not per- mitted. The standard permits the use of either the retrospective or cumulative effect transition method. The Company is evalu- ating the effect that ASU 2014-09 will have on its Consolidated Financial Statements, related disclosures, as well as which transi- tion method to apply. The Company does not expect a signiﬁcant be reasonably estimated based on currently available information. impact from the adoption of this standard. Environmental expenditures Environmental expenditures that relate to current operations, or to an existing condition caused by past operations, are expensed unless they can contribute to current or future operations. Environmental liabilities are recorded when environmental assess- ments occur, remedial efforts are probable, and when the costs, based on a speciﬁc plan of action in terms of the technology to be used and the extent of the corrective action required, can be reasonably estimated. The Company accrues its allocable share of liability taking into account the Company’s alleged responsibility, the number of potentially responsible parties and their ability to pay their respective shares of the liability. Recoveries of en- vironmental remediation costs from other parties are recorded as assets when their receipt is deemed probable and collectability is reasonably assured. 66 2014 Annual Report U.S. GAAP Canadian National Railway Company Notes to Consolidated Financial Statements 3 Other income In millions Year ended December 31, 2014 2013 2012 Gain on disposal of property (1) $ 99 $ 64 $ 295 Gain on disposal of land Other (2) Total other income 21 (13) 19 (10) 20 - $ 107 $ 73 $ 315 (1) In addition to the disposals of property described herein, 2014 includes other gains of $19 million; 2013 includes other losses of $5 million; and 2012 includes other gains of $14 million. (2) Includes foreign exchange gains and losses. Disposal of property 2014 Guelph On September 4, 2014, the Company closed a transaction with Metrolinx to sell a segment of the Guelph subdivision located between Georgetown and Kitchener, Ontario, together with the rail ﬁxtures and certain passenger agreements (collectively the “Guelph”), for cash proceeds of $76 million before transaction costs. The Company did not meet all the conditions to record the sale under the full accrual method for real estate transactions as it continues to have substantial continuing involvement on the Guelph. The Company will have relinquished substantially all of the risks and rewards of ownership on the Guelph in 2018, at which time the gain on the sale is expected to be recognized. Deux-Montagnes On February 28, 2014, the Company closed a transaction with Agence Métropolitaine de Transport to sell the Deux-Montagnes subdivision between Saint-Eustache and Montreal, Quebec, including the Mont-Royal tunnel, together with the rail ﬁxtures (collectively the “Deux-Montagnes”), for cash proceeds of $97 million before transaction costs. Under the agreement, the Company obtained the perpetual right to operate freight trains over the Deux-Montagnes at its then current level of operating activity, with the possibility of increasing its operating activity for additional consideration. The transaction resulted in a gain on disposal of $80 million ($72 million after-tax) that was recorded in Other income under the full accrual method of accounting for real estate transactions. 2013 Exchange of easements On June 8, 2013, the Company entered into an agreement with another Class I railroad to exchange perpetual railroad operating easements including the track and roadway assets on speciﬁc rail lines (collectively the “exchange of easements”) without monet- ary consideration. The Company accounted for the exchange of easements at fair value pursuant to FASB ASC 845, Nonmonetary Transactions. The transaction resulted in a gain on exchange of easements of $29 million ($18 million after-tax) that was record- ed in Other income. Lakeshore West On March 19, 2013, the Company entered into an agreement with Metrolinx to sell a segment of the Oakville subdivision in Oakville and Burlington, Ontario, together with the rail ﬁxtures and certain passenger agreements (collectively the “Lakeshore West”), for cash proceeds of $52 million before transaction costs. Under the agreement, the Company obtained the perpet- ual right to operate freight trains over the Lakeshore West at its then current level of operating activity, with the possibility of increasing its operating activity for additional consideration. The transaction resulted in a gain on disposal of $40 million ($36 mil- lion after-tax) that was recorded in Other income under the full accrual method of accounting for real estate transactions. 2012 Bala-Oakville On March 23, 2012, the Company entered into an agreement with Metrolinx to sell a segment of the Bala and a segment of the Oakville subdivisions in Toronto, Ontario, together with the rail ﬁxtures and certain passenger agreements (collectively the “Bala-Oakville”), for cash proceeds of $311 million before trans- action costs. Under the agreement, the Company obtained the perpetual right to operate freight trains over the Bala-Oakville at its then current level of operating activity, with the possibility of increasing its operating activity for additional consideration. The transaction resulted in a gain on disposal of $281 million ($252 million after-tax) that was recorded in Other income under the full accrual method of accounting for real estate transactions. Canadian National Railway Company U.S. GAAP 2014 Annual Report 67 Notes to Consolidated Financial Statements 4 Income taxes As at December 31, 2014, Deferred and receivable income taxes include a net deferred income tax asset of $68 million ($74 mil- The following table provides the signiﬁcant components of deferred income tax assets and liabilities: In millions December 31, 2014 2013 lion as at December 31, 2013) and an income tax receivable of Deferred income tax assets $95 million ($63 million as at December 31, 2013). Pension liability $ 120 $ The Company’s consolidated effective income tax rate differs Personal injury and legal claims from the Canadian, or domestic, statutory federal tax rate. The Environmental and other reserves effective tax rate is affected by recurring items such as tax rates in Other postretirement beneﬁts liability provincial, U.S. federal, state and other foreign jurisdictions and Net operating losses and tax credit carryforwards (1) 60 173 80 20 89 64 171 77 19 the proportion of income earned in those jurisdictions. The effect- Total deferred income tax assets $ 453 $ 420 ive tax rate is also affected by discrete items such as income tax Deferred income tax liabilities rate enactments and lower tax rates on capital dispositions that may occur in any given year. The following table provides a reconciliation of income tax expense: Properties Pension asset Other In millions Year ended December 31, 2014 2013 2012 Canadian statutory federal tax rate 15.0% 15.0% 15.0% Income tax expense at the Canadian statutory federal tax rate $ 654 $ 538 $ 549 Income tax expense (recovery) resulting from: Total deferred income tax liabilities Total net deferred income tax liability Total net deferred income tax liability Domestic Foreign Provincial and foreign taxes (1) 531 423 425 Total net deferred income tax liability $ 6,946 $ 6,232 232 109 438 213 $ 7,287 $ 6,883 $ 6,834 $ 6,463 $ 2,841 $ 2,920 3,993 3,543 $ 6,834 $ 6,463 Deferred income tax adjustments due to rate enactments (2) Gain on disposals (3) Other (4) - (19) 27 24 (9) 1 35 (44) 13 Income tax expense $ 1,193 $ 977 $ 978 Cash payments for income taxes $ 722 $ 890 $ 289 (1) Includes mainly Canadian provincial taxes and U.S. federal and state taxes. (2) Includes the net income tax expense resulting from the enactment of provincial and state corporate tax rates. (3) Relates to the permanent differences arising from lower capital gain tax rates on the gain on disposal of the Company’s properties in Canada. (4) Includes adjustments relating to the resolution of matters pertaining to prior years’ income taxes, including net recognized tax beneﬁts, and other items. Total net deferred income tax liability $ 6,834 $ 6,463 Net current deferred income tax asset 68 74 Net noncurrent deferred income tax liability $ 6,902 $ 6,537 (1) Net operating losses and tax credit carryforwards will expire between the years 2017 and 2034. On an annual basis, the Company assesses the need to estab- lish a valuation allowance for its deferred income tax assets, and if it is deemed more likely than not that its deferred income tax assets will not be realized, a valuation allowance is recorded. The ultimate realization of deferred income tax assets is dependent upon the generation of future taxable income during the per- iods in which those temporary differences become deductible. The following table provides tax information on a domestic and Management considers the scheduled reversals of deferred foreign basis: In millions Year ended December 31, 2014 2013 2012 income tax liabilities, the available carryback and carryforward periods, and projected future taxable income in making this assessment. As at December 31, 2014, in order to fully realize all of the deferred income tax assets, the Company will need Income before income taxes Domestic Foreign $ 3,042 $ 2,445 $ 2,656 to generate future taxable income of approximately $1.7 bil- 1,318 1,144 1,002 lion and, based upon the level of historical taxable income and Total income before income taxes $ 4,360 $ 3,589 $ 3,658 projections of future taxable income over the periods in which Current income tax expense Domestic Foreign $ 522 $ 404 $ 314 255 242 213 Total current income tax expense $ 777 $ 646 $ 527 Deferred income tax expense Domestic Foreign $ 271 $ 279 $ 370 145 52 81 Total deferred income tax expense $ 416 $ 331 $ 451 the deferred income tax assets are deductible, management believes it is more likely than not that the Company will realize the beneﬁts of these deductible differences. Management has assessed the impacts of the current economic environment and concluded there are no signiﬁcant impacts to its assertions for the realization of deferred income tax assets. The Company has not recognized a deferred income tax asset of $158 million as at December 31, 2014 ($243 million as at December 31, 2013) on the unrealized foreign exchange loss recorded in Accumulated 68 2014 Annual Report U.S. GAAP Canadian National Railway Company Notes to Consolidated Financial Statements other comprehensive loss relating to its net investment in foreign the taxation authorities. An examination of the federal income subsidiaries, as the Company does not expect this temporary tax returns for the years 2007 to 2011 is currently in progress. difference to reverse in the foreseeable future. Examinations of certain state income tax returns by the state The following table provides a reconciliation of unrecognized tax not anticipate any signiﬁcant impacts to its results of operations beneﬁts on the Company’s domestic and foreign tax positions: or ﬁnancial position as a result of the ﬁnal resolutions of such taxation authorities are currently in progress. The Company does In millions Year ended December 31, 2014 2013 2012 matters. Gross unrecognized tax beneﬁts at beginning of year $ 30 $ 36 $ 46 5 Earnings per share Increases for: Tax positions related to the current year Tax positions related to prior years Decreases for: Tax positions related to prior years Settlements 3 3 - - Lapse of the applicable statute of limitations (1) 2 4 (4) (8) - 1 3 - (13) (1) The following table provides a reconciliation between basic and diluted earnings per share: In millions, except per share data Year ended December 31, 2014 2013 2012 Net income $ 3,167 $ 2,612 $ 2,680 Gross unrecognized tax beneﬁts at end of year Adjustments to reﬂect tax treaties and $ 35 $ 30 $ 36 Weighted-average basic shares outstanding 819.9 843.1 871.1 Effect of stock-based compensation 3.6 3.0 4.3 other arrangements (6) (5) (6) Weighted-average diluted shares Net unrecognized tax beneﬁts at end of year $ 29 $ 25 $ 30 outstanding 823.5 846.1 875.4 Basic earnings per share $ 3.86 $ 3.10 $ 3.08 Diluted earnings per share $ 3.85 $ 3.09 $ 3.06 6 Accounts receivable In millions Freight Non-freight Gross accounts receivable Allowance for doubtful accounts December 31, 2014 2013 $ 777 $ 675 160 937 (9) 147 822 (7) Net accounts receivable $ 928 $ 815 As at December 31, 2014, the total amount of gross un- recognized tax beneﬁts was $35 million, before considering tax treaties and other arrangements between taxation authorities. The amount of net unrecognized tax beneﬁts as at December 31, 2014 was $29 million. If recognized, all of the net unrecognized tax beneﬁts as at December 31, 2014 would affect the effective tax rate. The Company believes that it is reasonably possible that approximately $10 million of the net unrecognized tax beneﬁts as at December 31, 2014 related to various federal, state, and provincial income tax matters, each of which are individually insigniﬁcant, may be recognized over the next twelve months as a result of settlements and a lapse of the applicable statute of limitations. The Company recognizes accrued interest and penalties relat- ed to gross unrecognized tax beneﬁts in Income tax expense in the Company’s Consolidated Statement of Income. The Company recognized approximately $1 million, $2 million and $3 mil- lion in accrued interest and penalties during the years ended December 31, 2014, 2013 and 2012, respectively. The Company had approximately $6 million and $5 million of accrued interest and penalties as at December 31, 2014 and 2013, respectively. In Canada, the Company’s federal and provincial income tax returns ﬁled for the years 2008 to 2013 remain subject to examination by the taxation authorities. An examination of the Company’s federal income tax returns for the years 2010 and 2011 is currently in progress and is expected to be completed during 2015. In the U.S., the federal income tax returns ﬁled for the years 2007 to 2013 remain subject to examination by the taxation authorities, and the state income tax returns ﬁled for the years 2009 to 2013 remain subject to examination by Canadian National Railway Company U.S. GAAP 2014 Annual Report 69 Notes to Consolidated Financial Statements 7 Properties In millions Properties including capital leases Track and roadway (1) Rolling stock Buildings Information technology (2) Other Depreciation rate December 31, 2014 Accumulated Cost depreciation Net December 31, 2013 Accumulated depreciation Cost Net 2% 5% 2% 11% 5% $ 29,995 $ 7,332 $ 22,663 $ 27,833 $ 7,103 $ 20,730 5,552 1,545 1,068 1,549 2,107 3,445 560 492 704 985 576 845 5,193 1,392 1,000 1,388 1,894 3,299 521 455 606 871 545 782 Total properties including capital leases $ 39,709 $ 11,195 $ 28,514 $ 36,806 $ 10,579 $ 26,227 Capital leases included in properties Track and roadway (3) $ 417 $ 63 $ 354 $ 417 $ 58 $ Rolling stock Buildings Other 808 109 108 292 23 29 516 86 79 982 109 102 358 21 22 359 624 88 80 Total capital leases included in properties $ 1,442 $ 407 $ 1,035 $ 1,610 $ 459 $ 1,151 (1) Includes $2,079 million and $1,911 million of land as at December 31, 2014 and December 31, 2013, respectively. (2) The Company capitalized $102 million in 2014 and $85 million in 2013 of internally developed software costs pursuant to FASB ASC 350-40, Intangibles – Goodwill and Other, Internal – Use Software. (3) Includes $108 million of right-of-way access in both years. 8 Intangible and other assets 9 Accounts payable and other In millions December 31, 2014 2013 In millions December 31, 2014 2013 Deferred and long-term receivables $ 141 $ 109 Trade payables $ 464 $ Intangible assets Investments (1) (2) Other 62 58 69 59 57 72 Payroll-related accruals Income and other taxes Accrued charges Total intangible and other assets $ 330 $ 297 Stock-based compensation liability (Note 14) (1) As at December 31, 2014, the Company had $47 million ($46 million as at December 31, 2013) of investments accounted for under the equity method and $11 million ($11 mil- lion as at December 31, 2013) of investments accounted for under the cost method. (2) See Note 17 – Financial instruments, for the fair value of Investments. Accrued interest Personal injury and other claims provisions (Note 16) Environmental provisions (Note 16) Other postretirement beneﬁts liability (Note 12) 317 208 166 106 95 48 45 17 408 351 96 156 80 125 45 41 18 Other 191 157 Total accounts payable and other $ 1,657 $ 1,477 70 2014 Annual Report U.S. GAAP Canadian National Railway Company Notes to Consolidated Financial Statements 10 Long-term debt In millions Notes and debentures (1) Canadian National series: 4.95% 6-year notes (2) - 2-year ﬂoating rate notes (3) 5.80% 10-year notes (2) 1.45% 5-year notes (2) - 3-year ﬂoating rate notes (3) 5.85% 10-year notes (2) 5.55% 10-year notes (2) 6.80% 20-year notes (2) 5.55% 10-year notes (2) 2.75% 7-year notes (2) 2.85% 10-year notes (2) 2.25% 10-year notes (2) 7.63% 30-year debentures 2.95% 10-year notes (2) 6.90% 30-year notes (2) 7.38% 30-year debentures (2) 6.25% 30-year notes (2) 6.20% 30-year notes (2) 6.71% Puttable Reset Securities PURSSM (2) 6.38% 30-year debentures (2) 3.50% 30-year notes (2) 4.50% 30-year notes (2) Illinois Central series: 5.00% 99-year income debentures 7.70% 100-year debentures BC Rail series: Outstanding US dollar- denominated amount Maturity December 31, 2014 2013 Jan. 15, 2014 US$ - $ - $ 346 Nov. 6, 2015 June 1, 2016 Dec. 15, 2016 Nov. 14, 2017 Nov. 15, 2017 May 15, 2018 July 15, 2018 Mar. 1, 2019 Feb. 18, 2021 Dec. 15, 2021 Nov. 15, 2022 May 15, 2023 Nov. 21, 2024 July 15, 2028 Oct. 15, 2031 Aug. 1, 2034 June 1, 2036 July 15, 2036 Nov. 15, 2037 Nov. 15, 2042 Nov. 7, 2043 Dec. 1, 2056 Sep. 15, 2096 350 250 300 250 250 325 200 550 400 250 150 350 475 200 500 450 250 300 250 250 - 125 406 290 348 290 290 377 232 638 250 464 290 174 406 551 232 581 522 290 348 290 290 - 145 372 266 319 - 266 346 213 585 - 425 266 159 - 505 213 532 479 266 319 266 266 7 133 Non-interest bearing 90-year subordinated notes (4) July 14, 2094 842 842 Total notes and debentures Other Commercial paper Accounts receivable securitization Capital lease obligations Total debt, gross Less: Net unamortized discount Total debt (5) Less: Current portion of long-term debt Total long-term debt US$ 6,425 $ 8,546 $ 7,391 - 50 670 273 250 783 9,266 8,697 857 8,409 544 $ 7,865 857 7,840 1,021 $ 6,819 (1) The Company’s notes, debentures and revolving credit facility are unsecured. (2) The ﬁxed rate debt securities are redeemable, in whole or in part, at the option of the Company, at any time, at the greater of par and a formula price based on interest rates prevailing at the time of redemption. (3) These 2-year and 3-year ﬂoating rate notes bear interest at the three-month London Interbank Offered Rate (LIBOR) plus 0.20% and LIBOR plus 0.17%, respectively. The interest rate on the 2-year ﬂoating rate notes as at December 31, 2014 was 0.43% (0.44% as at December 31, 2013). The interest rate on the 3-year ﬂoating rate notes issued in 2014 was 0.40%. (4) The Company records these notes as a discounted debt of $9 million, using an imputed interest rate of 5.75%. The discount of $833 million is included in the net unamortized discount. (5) See Note 17 – Financial instruments, for the fair value of debt. Canadian National Railway Company U.S. GAAP 2014 Annual Report 71 Notes to Consolidated Financial Statements 10 Long-term debt continued Revolving credit facility The Company has an $800 million revolving credit facility agree- ment with a consortium of lenders. The agreement, which con- Accounts receivable securitization program The Company has an agreement to sell an undivided co-ownership interest in a revolving pool of accounts receivable to unrelated trusts for maximum cash proceeds of $450 million. On July 23, 2014, the expiry date of the agreement was extended by one tains customary terms and conditions, allows for an increase in year to February 1, 2017. the facility amount, up to a maximum of $1.3 billion, as well as the option to extend the term by an additional year at each an- niversary date, subject to the consent of individual lenders. The Company exercised such option and on March 14, 2014, the ex- piry date of the agreement was extended by one year to May 5, 2019. The credit facility is available for general corporate pur- poses, including back-stopping the Company’s commercial paper As at December 31, 2014, the Company recorded $50 million ($250 million as at December 31, 2013) of proceeds received under the accounts receivable securitization program in the Current portion of long-term debt on the Consolidated Balance Sheet at a weighted-average interest rate of 1.24% (1.18% as at December 31, 2013) which is secured by and limited to $56 million ($281 million as at December 31, 2013) of accounts program, and provides for borrowings at various interest rates, receivable. including the Canadian prime rate, bankers’ acceptance rates, the U.S. federal funds effective rate and the London Interbank Bilateral letter of credit facilities Offered Rate (LIBOR), plus applicable margins. The credit facility agreement has one ﬁnancial covenant, which limits debt as a percentage of total capitalization, and with which the Company is in compliance. As at December 31, 2014 and December 31, 2013, the Company had no outstanding borrowings under its revolving credit facility and there were no draws during the years ended December 31, 2014 and 2013. Commercial paper The Company has a commercial paper program, which is back- stopped by its revolving credit facility, enabling it to issue com- mercial paper up to a maximum aggregate principal amount of $800 million, or the US dollar equivalent. As at December 31, 2014, the Company had no commercial paper borrowings ($273 million at a weighted-average interest rate of 1.14% as The Company has a series of bilateral letter of credit facility agree- ments with various banks to support its requirements to post letters of credit in the ordinary course of business. On March 14, 2014, the expiry date of these agreements was extended by one year to April 28, 2017. Under these agreements, the Company has the option from time to time to pledge collateral in the form of cash or cash equivalents, for a minimum term of one month, equal to at least the face value of the letters of credit issued. As at December 31, 2014, the Company had letters of credit drawn of $487 million ($481 million as at December 31, 2013) from a total committed amount of $511 million ($503 million as at December 31, 2013) by the various banks. As at December 31, 2014, cash and cash equivalents of $463 million ($448 million as at December 31, 2013) were pledged as collateral and record- ed as Restricted cash and cash equivalents on the Consolidated at December 31, 2013) presented in Current portion of long- Balance Sheet. term debt on the Consolidated Balance Sheet. The Company’s commercial paper has a maturity less than 90 days. Capital lease obligations The following table presents the issuances and repayments of commercial paper: During 2014, the Company had no acquisitions of assets through equipment leases ($44 million in 2013 for which an equivalent amount was recorded in debt). In millions Year ended December 31, 2014 2013 2012 Interest rates for capital lease obligations range from 0.7% to Issuances of commercial paper $ 2,443 $ 3,255 $ 1,861 Repayments of commercial paper (2,720) (2,987) (1,943) Net issuance (repayment) of commercial paper 8.5% with maturity dates in the years 2015 through 2037. The imputed interest on these leases amounted to $145 million as at December 31, 2014 and $209 million as at December 31, 2013. $ (277) $ 268 $ (82) The capital lease obligations are secured by properties with a net carrying amount of $668 million as at December 31, 2014 and $779 million as at December 31, 2013. 72 2014 Annual Report U.S. GAAP Canadian National Railway Company Notes to Consolidated Financial Statements Long-term debt maturities The following table provides the long-term debt maturities, including capital lease repayments on debt outstanding as at December 31, 2014, for the next ﬁve years and thereafter: In millions 2015 (1) 2016 2017 2018 2019 2020 and thereafter Total (1) Current portion of long-term debt. Amount of US dollar-denominated debt In millions Notes and debentures Capital lease obligations Total amount of US dollar-denominated debt in US$ Total amount of US dollar-denominated debt in C$ Capital leases Debt Total $ 88 $ 456 $ 311 152 8 8 103 $ 670 634 577 606 636 544 945 729 614 644 4,830 $ 7,739 4,933 $ 8,409 December 31, 2014 2013 US $ 6,425 US $ 6,157 448 573 US $ 6,873 US $ 6,730 $ 7,973 $ 7,158 11 Other liabilities and deferred credits In millions December 31, 2014 2013 current or former executive employee may have violated the con- ditions of their SRS, SERP, or DC SERP plan, the Company may at its discretion withhold or suspend payout of the retirement beneﬁt Personal injury and other claims provisions, pending resolution of such matter. net of current portion (Note 16) $ 250 $ 271 Stock-based compensation liability, net of current portion (Note 14) Environmental provisions, net of current portion (Note 16) Deferred credits and other 91 240 69 294 78 226 Total other liabilities and deferred credits $ 704 $ 815 12 Pensions and other postretirement beneﬁts The Company has various retirement beneﬁt plans under which sub- stantially all of its employees are entitled to beneﬁts at retirement age, generally based on compensation and length of service and/or con- tributions. Senior and executive management employees (“executive employees”) subject to certain minimum service and age requirements, are also eligible for an additional retirement beneﬁt under their Special Retirement Stipend Agreements (SRS), the Supplemental Executive Retirement Plan (SERP) or the Deﬁned Contribution Supplemental Executive Retirement Plan (DC SERP). Current or former executive employees who breach the non-compete, non-solicitation and non-disclosure of conﬁdential information conditions of the SRS, SERP or DC SERP plans will forfeit the retirement beneﬁt under these plans. Should the Company reasonably determine that a On February 4, 2013, the Company’s Chief Operating Ofﬁcer (COO) resigned to join the Company’s major competitor in Canada. As a result, compensation amounts accumulated under the non- registered pension plans subject to non-compete and non-solicitation agreements were forfeited. The Company has recorded an actuarial gain related to the amounts forfeited. In 2012, the Company cancelled the $1.5 million annual retirement beneﬁt otherwise due to its former Chief Executive Ofﬁcer (CEO) after determining that the former CEO was likely in breach of the non-compete, non-solicitation and non- disclosure of conﬁdential information conditions contained in the for- mer CEO’s employment agreement. The Company recorded a settle- ment gain of $20 million from the termination of the former CEO’s retirement beneﬁt plan for the period beyond June 28, 2012, which was partially offset by the recognition of past accumulated actuarial losses of approximately $4 million. In February 2013, the Company entered into conﬁdential agreements to settle these matters. The Company also offers postretirement beneﬁts to certain employees providing life insurance, medical beneﬁts and, for a closed group of employees, free rail travel beneﬁts during retire- ment. These postretirement beneﬁts are funded as they become due. The information in the tables that follow pertains to all of the Company’s deﬁned beneﬁt plans. However, the following descriptions relate solely to the Company’s main pension plan, the CN Pension Plan, unless otherwise speciﬁed. Canadian National Railway Company U.S. GAAP 2014 Annual Report 73 Notes to Consolidated Financial Statements 12 Pensions and other postretirement beneﬁts In 2014, the Company made no voluntary contributions continued Description of the CN Pension Plan The CN Pension Plan is a contributory deﬁned beneﬁt pension plan that covers the majority of CN employees. It provides for pensions based mainly on years of service and ﬁnal average pen- sionable earnings and is generally applicable from the ﬁrst day of employment. Indexation of pensions is provided after retire- ment through a gain/loss sharing mechanism, subject to guar- anteed minimum increases. An independent trust company is the Trustee of the Company’s pension trust funds (including the CN Pension Trust Fund). As Trustee, the trust company performs certain duties, which include holding legal title to the assets of the CN Pension Trust Fund and ensuring that the Company, as Administrator, complies with the provisions of the CN Pension Plan and the related legislation. The Company utilizes a measure- ment date of December 31 for the CN Pension Plan. Funding policy Employee contributions to the CN Pension Plan are determined by the plan rules. Company contributions are in accordance with ($100 million in 2013) in excess of the required minimum contri- butions. Voluntary contributions can be treated as a prepayment against its future required special solvency deﬁcit payments. As at December 31, 2014, the Company had $143 million of ac- cumulated prepayments under the CN Pension Plan which remain available to offset future required solvency deﬁcit payments. The Company expects to use these prepayments to satisfy a portion of its 2015 required solvency deﬁcit payment. The Company established an irrevocable standby letter of credit in 2014 with a face amount of approximately $3 million in order to satisfy the solvency deﬁcit payment for the BC Rail Pension Plan. The Company expects to further subscribe to letters of credit in 2015 to satisfy the solvency deﬁcit payments for certain of its deﬁned beneﬁt pension plans including the CN Pension Plan. Under the CN Pension Plan, considering the prepayments available, it is ex- pected that the letters of credit will only be required in the third quarter of 2015. The total face amount of the letters of credit is expected to be approximately $90 million at the end of 2015. As a result, the Company’s cash contributions for 2015 are expected to be $125 million, for all the Company’s pension plans. As at February 2, 2015, the Company contributed $80 million to its the requirements of the Government of Canada legislation, the deﬁned beneﬁt pension plans for 2015. Pension Beneﬁts Standards Act, 1985, including amendments and regulations thereto, and such contributions follow minimum Plan assets and maximum thresholds as determined by actuarial valuations. Actuarial valuations are generally required on an annual basis for all Canadian plans, or when deemed appropriate by the Ofﬁce of the Superintendent of Financial Institutions. These actuarial valuations are prepared in accordance with legislative require- ments and with the recommendations of the Canadian Institute of Actuaries for the valuation of pension plans. The Company’s most recently ﬁled actuarial valuations conducted as at December 31, 2013 indicated a funding excess on a going-con- cern basis of approximately $1.6 billion and a funding deﬁcit on a solvency basis of approximately $1.7 billion calculated using the three-year average of the plans’ hypothetical wind-up ratio in accordance with the Pension Beneﬁt Standards Regulations, 1985. The Company’s next actuarial valuations required as at December 31, 2014 will be performed in 2015. These actuarial valuations are expected to identify a going-concern surplus of approximately $1.9 billion, while on a solvency basis a funding deﬁcit of approximately $1.1 billion is expected. The federal pension legislation requires funding deﬁcits, as calculated under The assets of the Company’s various Canadian deﬁned beneﬁt pension plans are primarily held in separate trust funds (“Trusts”) which are diversiﬁed by asset type, country and investment strat- egies. Each year, the CN Board of Directors reviews and conﬁrms or amends the Statement of Investment Policies and Procedures (SIPP) which includes the plans’ long-term asset mix and related benchmark indices (“Policy”). This Policy is based on a long-term forward-looking view of the world economy, the dynamics of the plans’ beneﬁt obligations, the market return expectations of each asset class and the current state of ﬁnancial markets. Annually, the CN Investment Division (“Investment Manager”), a division of the Company created to invest and administer the assets of the plans, proposes a short-term asset mix target (“Strategy”) for the coming year, which is expected to differ from the Policy, because of current economic and market condi- tions and expectations. The Investment Committee of the Board (“Committee”) regularly compares the actual asset mix to the Policy and Strategy and compares the actual performance of the Company’s pension plans to the performance of the benchmark current pension regulations, to be paid over a number of years. indices. Alternatively, a letter of credit can be subscribed to fulﬁll required solvency deﬁcit payments. Actuarial valuations are also required annually for the Company’s U.S. qualiﬁed pension plans. 74 2014 Annual Report U.S. GAAP Canadian National Railway Company Notes to Consolidated Financial Statements The Company’s 2014 target long-term asset mix and actual (g) Absolute return investments are primarily a portfolio of units asset allocation for the Company’s pension plans based on fair of externally managed hedge funds, which are invested in value, are as follows: Cash and short-term investments Bonds and mortgages Equities Real estate Oil and gas Infrastructure Absolute return Risk-based allocation Total Target long-term asset mix Percentage of plan assets 2013 2014 3% 37% 45% 4% 7% 4% - - 3% 29% 39% 2% 8% 5% 10% 4% 5% 25% 41% 2% 8% 5% 10% 4% 100% 100% 100% various long/short strategies within multi-strategy, ﬁxed income, equities, global macro and commodity funds, as presented in the table of fair value measurement. Managers are monitored on a continuous basis through investment and operational due diligence. (h) Risk-based allocation investments are a portfolio of units of externally managed funds where the overall risk of the asset class is managed in order to capture over time different asset classes risk premiums. Some of these investments are held by the Trusts’ wholly-owned subsidiaries. The plans’ Investment Manager monitors market events and exposures to markets, currencies and interest rates daily. When The Committee’s approval is required for all major investments investing in foreign securities, the plans are exposed to foreign in illiquid securities. The SIPP allows for the use of derivative ﬁ- currency risk that may be adjusted or hedged; the effect of which nancial instruments to implement strategies, hedge, and adjust is included in the valuation of the foreign securities. Net of the existing or anticipated exposures. The SIPP prohibits investments effects mentioned above, the plans were 65% exposed to the in securities of the Company or its subsidiaries. Investments held Canadian dollar, 16% to the US dollar, 7% to European curren- in the Company’s pension plans consist mainly of the following: cies, and 12% to various other currencies as at December 31, (a) Cash and short-term investments consist primarily of highly li- 2014. Interest rate risk represents the risk that the fair value of quid securities which ensure adequate cash ﬂows are available the investments will ﬂuctuate due to changes in market interest to cover near-term beneﬁt payments. Short-term investments rates. Sensitivity to interest rates is a function of the timing and are mainly obligations issued by Canadian chartered banks. amount of cash ﬂows of the assets and liabilities of the plans. (b) Bonds include bond instruments, issued or guaranteed by Overall return in the capital markets and the level of interest governments and corporate entities, as well as corporate rates affect the funded status of the Company’s pension plans, notes. As at December 31, 2014, 82% of bonds were issued particularly the Company’s main Canadian pension plan. Adverse or guaranteed by Canadian, U.S. or other governments. changes with respect to pension plan returns and the level of Mortgages consist of mortgage products which are primarily interest rates from the date of the last actuarial valuations may conventional or participating loans secured by commercial have a material adverse effect on the funded status of the plans properties. and on the Company’s results of operations. Derivatives are used (c) Equity investments are primarily publicly traded securities, from time to time to adjust asset mix or exposures to foreign well diversiﬁed by country, issuer and industry sector. In currencies, interest rate or market risks of the portfolio or antici- 2014, the most signiﬁcant allocation to an individual issuer pated transactions. Derivatives are contractual agreements whose was approximately 2% and the most signiﬁcant allocation to value is derived from interest rates, foreign exchange rates, and an industry sector was approximately 23%. equity or commodity prices. They may include forwards, futures, (d) Real estate is a diversiﬁed portfolio of Canadian land and options and swaps and are included in investment categories commercial properties held by the Trusts’ wholly-owned based on their underlying exposure. When derivatives are used subsidiaries. for hedging purposes, the gains or losses on the derivatives are (e) Oil and gas investments include petroleum and natural gas offset by a corresponding change in the value of the hedged properties operated by the Trusts’ wholly-owned subsidiaries assets. To manage credit risk, established policies require dealing and listed and non-listed Canadian securities of oil and gas with counterparties considered to be of high credit quality. companies. The tables on the following pages present the fair value of (f) Infrastructure investments include participations in private plan assets as at December 31, 2014 and 2013 by asset class, infrastructure funds, public and private debt and publicly their level within the fair value hierarchy and the valuation tech- traded equity securities of infrastructure and utility compan- niques and inputs used to measure such fair value: ies. Some of these investments are held by the Trusts’ wholly- owned subsidiaries. Canadian National Railway Company U.S. GAAP 2014 Annual Report 75 Notes to Consolidated Financial Statements 12 Pensions and other postretirement beneﬁts continued In millions Cash and short-term investments (1) Bonds (2) Canada, U.S. and supranational Provinces of Canada and municipalities Corporate Emerging market debt Mortgages (3) Equities (4) Canadian U.S. International Real estate (5) Oil and gas (6) Infrastructure (7) Absolute return funds (8) Multi-strategy Fixed income Equity Global macro Commodity Risk-based allocation (9) Total Other (10) Total plan assets In millions Cash and short-term investments (1) Bonds (2) Canada, U.S. and supranational Provinces of Canada and municipalities Corporate Emerging market debt Mortgages (3) Equities (4) Canadian U.S. International Real estate (5) Oil and gas (6) Infrastructure (7) Absolute return funds (8) Multi-strategy Fixed income Equity Global macro Risk-based allocation (9) Total Other (10) Total plan assets Level 1: Fair value based on quoted prices in active markets for identical assets. Level 2: Fair value based on signiﬁcant observable inputs. Level 3: Fair value based on signiﬁcant unobservable inputs. Fair value measurements at December 31, 2014 Total Level 1 Level 2 Level 3 $ 579 $ 64 $ 515 $ 1,450 2,701 618 296 131 2,096 1,493 3,425 317 1,374 885 591 471 299 384 1 635 - - - - - 2,072 1,493 3,425 - 349 14 - - - - - - 1,450 2,701 618 296 131 - - - - 17 107 591 428 299 384 1 635 - - - - - - 24 - - 317 1,008 764 - 43 - - - - $ 17,746 $ 7,417 $ 8,173 $ 2,156 15 $ 17,761 Fair value measurements at December 31, 2013 Total Level 1 Level 2 Level 3 $ 897 $ 16 $ 881 $ 1,416 2,297 111 261 166 2,160 1,307 3,421 299 1,380 788 460 519 391 328 607 - - - - - 2,138 1,307 3,421 - 379 10 - - 2 - - 1,416 2,297 111 261 166 - - - - 40 115 460 486 389 328 607 - - - - - - 22 - - 299 961 663 - 33 - - - $ 16,808 $ 7,273 $ 7,557 $ 1,978 61 $ 16,869 Footnotes to the table follow on the next page. 76 2014 Annual Report U.S. GAAP Canadian National Railway Company Notes to Consolidated Financial Statements The following table reconciles the beginning and ending balances of the fair value of investments classiﬁed as Level 3: In millions Equities (4) Real estate (5) Oil and gas (6) Infrastructure (7) return (8) Total Balance at December 31, 2012 $ 22 $ 279 $ 940 $ 577 $ 10 $ 1,828 Fair value measurements based on signiﬁcant unobservable inputs (Level 3) Absolute Actual return relating to assets still held at the reporting date Purchases Sales 2 2 (4) 26 - (6) 72 - (51) 43 120 (77) 3 20 - 146 142 (138) Balance at December 31, 2013 $ 22 $ 299 $ 961 $ 663 $ 33 $ 1,978 Actual return relating to assets still held at the reporting date Purchases Sales 1 4 (3) 21 - (3) - 47 - 2 159 (60) 1 9 - 25 219 (66) Balance at December 31, 2014 $ 24 $ 317 $ 1,008 $ 764 $ 43 $ 2,156 (1) Cash and short-term investments are valued at cost, which approximates fair value, and are categorized as Level 1 for cash and Level 2 for short-term investments. (2) Bonds are valued using mid-price bids obtained from independent pricing data suppliers. When prices are not available from independent sources, the fair value is based on the present value of future cash ﬂows using current market yields for comparable instruments. All bonds are categorized as Level 2. (3) Mortgages are secured by real estate. The fair value of $131 million ($166 million in 2013) of mortgages categorized as Level 2 is based on the present value of future cash ﬂows using current market yields for comparable instruments. (4) The fair value of equity investments categorized as Level 1 is based on quoted prices in active markets. The fair value of equity investments of $24 million ($22 million in 2013) categorized as Level 3 represent units in private equity funds which are valued by their independent administrators. (5) The fair value of real estate investments of $317 million ($299 million in 2013) includes land and buildings net of related mortgage debt of $34 million ($41 million in 2013) and is categorized as Level 3. Land is valued based on the fair value of comparable assets, and buildings are valued based on the present value of estimated future net cash ﬂows or the fair value of comparable assets. Independent valuations of land and buildings are performed triennially on a rotational basis. Mortgage debt is valued based on the present value of future cash ﬂows using current market yields for comparable instruments. (6) Oil and gas investments categorized as Level 1 are valued based on quoted prices in active markets. Investments in oil and gas equities traded on a secondary market are valued based on the most recent transaction price and are categorized as Level 2. Investments of $1,008 million ($961 million in 2013) categorized as Level 3 consist of operating oil and gas properties and the fair value is based on estimated future net cash ﬂows that are discounted using prevailing market rates for transactions in similar assets. The future net cash ﬂows are based on forecasted oil and gas prices and projected future annual production and costs. (7) Infrastructure investments consist of $14 million ($10 million in 2013) of publicly traded equity securities of infrastructure companies categorized as Level 1, $107 million ($115 million in 2013) of term loans, bonds and infrastructure funds issued by infrastructure companies categorized as Level 2 and $764 million ($663 million in 2013) of infrastructure funds that are categorized as Level 3 and are valued based on discounted cash ﬂows or earnings multiples. Distributions may be received throughout the term of the funds and/or upon the sale of the underlying investments. (8) Absolute return investments are valued using the net asset value as reported by the independent fund administrators. All absolute return investments have contractual redemption frequen- cies, ranging from monthly to annually, and redemption notice periods varying from 5 to 90 days. Absolute return investments that have redemption dates less frequent than every four months or that have restrictions on contractual redemption features at the reporting date are categorized as Level 3. (9) Risk-based allocation investments are valued using the net asset value as reported by the independent fund administrators and are categorized as Level 2. All funds have contractual redemption frequencies ranging from daily to annually, and redemption notice periods varying from 5 to 60 days. (10) Other consists of operating assets of $145 million ($85 million in 2013) and liabilities of $130 million ($24 million in 2013) required to administer the Trusts’ investment assets and the plans’ beneﬁt and funding activities. Such assets are valued at cost and have not been assigned to a fair value category. Canadian National Railway Company U.S. GAAP 2014 Annual Report 77 Notes to Consolidated Financial Statements 12 Pensions and other postretirement beneﬁts continued Additional disclosures Obligations and funded status In millions Year ended December 31, 2014 2013 Pensions Other postretirement beneﬁts 2013 2014 Change in beneﬁt obligation Projected beneﬁt obligation at beginning of year $ 15,510 $ 16,335 $ 256 $ 277 Amendments Interest cost Actuarial loss (gain) on projected beneﬁt obligation Service cost Plan participants’ contributions Foreign currency changes 2 711 1,815 132 58 22 - 658 (747) 155 56 16 2 12 6 2 - 7 - 11 (22) 3 - 5 Beneﬁt payments, settlements and transfers (971) (963) (18) (18) Projected beneﬁt obligation at end of year $ 17,279 $ 15,510 $ 267 $ 256 Component representing future salary increases (349) (344) - - Accumulated beneﬁt obligation at end of year $ 16,930 $ 15,166 $ 267 $ 256 Change in plan assets Fair value of plan assets at beginning of year $ 16,869 $ 15,811 Employer contributions Plan participants’ contributions Foreign currency changes Actual return on plan assets Beneﬁt payments, settlements and transfers 111 58 15 1,679 (971) 226 56 10 1,728 (962) Fair value of plan assets at end of year $ 17,761 $ 16,869 $ $ - - - - - - - $ $ - - - - - - - Funded status – Excess (deﬁciency) of fair value of plan assets over projected beneﬁt obligation at end of year $ 482 $ 1,359 $ (267) $ (256) Measurement date for all plans is December 31. The projected beneﬁt obligation and fair value of plan assets for the CN Pension Plan at December 31, 2014 were $16,059 million and $16,905 million, respectively ($14,458 million and $16,059 million, respectively, at December 31, 2013). Amounts recognized in the Consolidated Balance Sheet In millions Noncurrent assets – Pension asset Current liabilities (Note 9) Noncurrent liabilities – Pension and other postretirement beneﬁts Total amount recognized December 31, 2014 2013 Pensions Other postretirement beneﬁts 2013 2014 $ 882 $ 1,662 $ - $ - - (400) - (303) (17) (250) (18) (238) $ 482 $ 1,359 $ (267) $ (256) Amounts recognized in Accumulated other comprehensive loss (Note 15) In millions Net actuarial gain (loss) Prior service cost December 31, 2014 2013 Pensions Other postretirement beneﬁts 2013 2014 $ (2,502) $ (1,515) $ 17 $ (20) (22) (5) 27 (5) 78 2014 Annual Report U.S. GAAP Canadian National Railway Company Notes to Consolidated Financial Statements Information for the pension plans with an accumulated beneﬁt obligation in excess of plan assets In millions Projected beneﬁt obligation Accumulated beneﬁt obligation Fair value of plan assets December 31, 2014 2013 Pensions Other postretirement beneﬁts 2013 2014 $ 646 $ 527 585 246 475 224 N/A N/A N/A N/A N/A N/A Components of net periodic beneﬁt cost (income) In millions Year ended December 31, 2014 Pensions 2013 2012 Other postretirement beneﬁts 2012 2013 2014 Current service cost Interest cost Curtailment gain Settlement loss (gain) (1) Expected return on plan assets Amortization of prior service cost Amortization of net actuarial loss (gain) $ 132 $ 155 $ 134 $ 711 658 - 3 (978) 4 124 - 4 (958) 4 227 740 - (12) (994) 4 119 2 12 - - - 2 (4) $ $ 3 11 - - - 1 (1) 4 13 (6) - - 3 - Net periodic beneﬁt cost (income) $ (4) $ 90 $ (9) $ 12 $ 14 $ 14 (1) The 2012 ﬁgure includes the settlement gain related to the termination of the former CEO’s retirement beneﬁt plan. The estimated prior service cost and net actuarial loss for deﬁned beneﬁt pension plans that will be amortized from Accumulated other comprehensive loss into net periodic beneﬁt cost (income) over the next ﬁscal year are $4 million and $253 million, respectively. The estimated prior service cost and net actuarial gain for other postretirement beneﬁts that will be amortized from Accumulated other comprehensive loss into net periodic beneﬁt cost (income) over the next ﬁscal year are $1 million and $4 million, respectively. Weighted-average assumptions used in accounting for Pensions and other postretirement beneﬁts To determine projected beneﬁt obligation Discount rate (1) Rate of compensation increase (2) To determine net periodic beneﬁt cost Discount rate (1) Rate of compensation increase (2) Expected return on plan assets (3) December 31, 2014 Pensions 2013 2012 Other postretirement beneﬁts 2012 2013 2014 3.87% 4.73% 4.15% 3.86% 4.69% 4.01% 3.00% 3.00% 3.00% 3.00% 3.00% 3.00% 4.73% 4.15% 4.84% 4.69% 4.01% 4.70% 3.00% 3.00% 3.25% 3.00% 3.00% 3.25% 7.00% 7.00% 7.25% N/A N/A N/A (1) The Company’s discount rate assumption, which is set annually at the end of each year, is used to determine the projected beneﬁt obligation at the end of the year and the net periodic beneﬁt cost for the following year. The discount rate is used to measure the single amount that, if invested at the measurement date in a portfolio of high-quality debt instruments with a rating of AA or better, would provide the necessary cash ﬂows to pay for pension beneﬁts as they become due. The discount rate is determined by management with the aid of third-party actuaries. For the Canadian pension and other postretirement beneﬁt plans, future expected beneﬁt payments at each measurement date are discounted using spot rates from a derived AA corporate bond yield curve. The derived curve is based on observed rates for AA corporate bonds with short-term maturities and a projected AA corporate curve for longer-term maturities based on spreads between observed AA corporate bonds and AA provincial bonds. The derived curve is expected to generate cash ﬂows that match the estimated future beneﬁt payments of the plans as the bond rate for each maturity year is applied to the plans’ corresponding expected beneﬁt payments of that year. (2) The rate of compensation increase is determined by the Company based upon its long-term plans for such increases. (3) To develop its expected long-term rate of return assumption used in the calculation of net periodic beneﬁt cost applicable to the market-related value of assets, the Company considers multiple factors. The expected long-term rate of return is determined based on expected future performance for each asset class and is weighted based on the current asset portfolio mix. Consideration is taken of the historical performance, the premium return generated from an actively managed portfolio, as well as current and future anticipated asset allocations, economic developments, inﬂation rates and administrative expenses. Based on these factors, the rate is determined by the Company. For 2014, the Company used a long-term rate of return assump- tion of 7.00% on the market-related value of plan assets to compute net periodic beneﬁt cost (income). The Company has elected to use a market-related value of assets, whereby realized and unrealized gains/losses and appreciation/depreciation in the value of the investments are recognized over a period of ﬁve years, while investment income is recognized immediately. In 2015, the Company will maintain the expected long-term rate of return on plan assets at 7.00% to reﬂect management’s current view of long-term investment returns. Canadian National Railway Company U.S. GAAP 2014 Annual Report 79 Notes to Consolidated Financial Statements 12 Pensions and other postretirement beneﬁts Deﬁned contribution and other plans continued Health care cost trend rate for other postretirement beneﬁts For measurement purposes, increases in the per capita cost of covered health care beneﬁts were assumed to be 7.5% for 2014 and 2015. It is assumed that the rate will decrease gradually to 4.5% in 2028 and remain at that level thereafter. Assumed health care costs have an effect on the amounts re- The Company maintains deﬁned contribution pension plans for certain salaried employees as well as certain employees covered by collective bargaining agreements. The Company also maintains other plans including Section 401(k) savings plans for certain U.S. based employees. The Company’s contributions under these plans are expensed as incurred and amounted to $16 million, $13 mil- lion and $11 million for 2014, 2013 and 2012, respectively. ported for the health care plan. A one-percentage-point change Contributions to multi-employer plan in the assumed health care cost trend rate would have the fol- lowing effect: In millions One-percentage-point Increase Decrease Under collective bargaining agreements, the Company participates in a multi-employer beneﬁt plan named the Railroad Employees National Early Retirement Major Medical Beneﬁt Plan which is administered by the National Carriers’ Conference Committee (NCCC), and provides certain postretirement health care beneﬁts Effect on total service and interest costs $ Effect on beneﬁt obligation 1 12 $ (1) to certain retirees. The Company’s contributions under this plan (10) are expensed as incurred and amounted to $10 million, $10 mil- lion and $11 million in 2014, 2013 and 2012, respectively. The an- nual contribution rate for the plan is determined by the NCCC and for 2014 was $141.29 per month per active employee ($143.21 in 2013). The plan covered 807 retirees in 2014 (867 in 2013). Estimated future beneﬁt payments Other postretirement beneﬁts $ 17 17 18 18 18 81 Pensions $ 1,011 1,034 1,048 1,059 1,067 5,379 In millions 2015 2016 2017 2018 2019 Years 2020 to 2024 13 Share capital Authorized capital stock The authorized capital stock of the Company is as follows: • Unlimited number of Common Shares, without par value • Unlimited number of Class A Preferred Shares, without par value, issuable in series • Unlimited number of Class B Preferred Shares, without par value, issuable in series Issued and outstanding common shares In millions Year ended December 31, 2014 Issued and outstanding common shares at beginning of year Number of common shares repurchased Stock options exercised Issued and outstanding common shares at end of year 830.6 (22.4) 1.2 809.4 2013 856.8 (27.6) 1.4 830.6 2012 884.2 (33.8) 6.4 856.8 80 2014 Annual Report U.S. GAAP Canadian National Railway Company Notes to Consolidated Financial Statements Share purchases Share repurchase programs Share purchases by Share Trusts In 2014, the Company established Share Trusts to purchase common The Company may repurchase shares pursuant to a normal course shares on the open market, which will be used to deliver common issuer bid (NCIB) at prevailing market prices plus brokerage fees, shares under the Share Units Plan (see Note 14 – Stock plans). Shares or such other prices as may be permitted by the Toronto Stock purchased by the Share Trusts are retained until the Company instructs Exchange. Under its current NCIB, the Company may repurchase the trustee to transfer shares to participants of the Share Units Plan. up to 28.0 million common shares between October 24, 2014 As at December 31, 2014, the Share Trusts held nil common and October 23, 2015. As at December 31, 2014, the Company shares of the Company. Common shares purchased by the Share repurchased 5.6 million common shares under its current Trusts will be accounted for as treasury stock. The Share Trusts may program. sell shares on the open market to facilitate the remittance of the The following table provides the information related to the Company’s employee tax withholding obligations. share repurchase programs for the years ended December 31, In 2015, the Share Trusts could purchase up to 2.0 million com- 2014, 2013 and 2012: In millions, except per share data Year ended December 31, 2014 2013 2012 Number of common shares repurchased (1) 22.4 27.6 33.8 Weighted-average price per share (2) $ 67.38 $ 50.65 $ 41.36 Amount of repurchase $ 1,505 $ 1,400 $ 1,400 mon shares on the open market in anticipation of future settle- ments of equity settled PSU awards. Additional paid-in capital Additional paid-in capital includes the stock-based compensation expense on equity settled awards; the excess tax beneﬁts on stock-based compensation; and the impact of the modiﬁcation (1) Includes common shares purchased in the ﬁrst and fourth quarters of 2014, 2013 and 2012 pursuant to private agreements between the Company and arm’s-length third-party sellers. of certain cash settled awards to equity settled awards. Upon the exercise of stock options, the expense related to those options (2) Includes brokerage fees. is reclassiﬁed from Additional paid-in capital to Common shares. The Company reclassiﬁed prior year balances from Common shares to Additional paid-in capital in the Consolidated Balance Sheet to conform with the 2014 presentation. Stock-based compensation and other In millions Stock options exercised Equity settled stock-based compensation expense Excess tax beneﬁts on stock-based compensation Modiﬁcation of stock-based compensation awards (1) Total stock-based compensation and other 2014 2013 2012 Issued and outstanding common Common shares and additional shares paid-in capital Issued and outstanding common shares Common shares and additional paid-in capital Issued and outstanding common shares Common shares and additional paid-in capital 1.2 $ 25 1.4 $ 28 6.4 $ 102 - - - 1.2 11 5 209 $ 250 - - - 9 3 - - - - 10 16 - 1.4 $ 40 6.4 $ 128 (1) Represents the fair value of cash settled stock-based compensation awards modiﬁed in 2014 to settle in common shares of the Company and includes $132 million related to deferred share units (DSUs), $60 million related to performance share units (PSUs) and $17 million related to other plans. See Note 14 – Stock plans. Canadian National Railway Company U.S. GAAP 2014 Annual Report 81 Notes to Consolidated Financial Statements 14 Stock plans Cash settled awards (a) Share Units Plan The Company has various stock-based compensation plans for eligible employees. A description of the Company’s major plans is provided herein. Employee Share Investment Plan The Company has an Employee Share Investment Plan (ESIP) giving eligible employees the opportunity to subscribe for up to 10% of their gross salaries to purchase shares of the Company’s common The objective of the Share Units Plan is to enhance the Company’s ability to attract and retain talented employees and to provide alignment of interests between such employees and the share- holders of the Company. The PSUs granted are scheduled for pay- out after three years (“plan period”) and vest conditionally upon the attainment of a target relating to return on invested capital (ROIC) over the plan period. Such performance vesting criteria results in a performance vesting factor that ranges from 0% to stock on the open market and to have the Company invest, on the 150% depending on the level of ROIC attained. employees’ behalf, a further 35% of the amount invested by the employees, up to 6% of their gross salaries. The following table provides the number of participants hold- ing shares, the total number of ESIP shares purchased on behalf of employees, including the Company’s contributions, as well as the resulting expense recorded for the years ended December 31, 2014, 2013 and 2012: Payout is conditional upon the attainment of a minimum share price, calculated using the average of the last three months of the plan period. In addition, commencing at various dates, for senior and executive management employees (“executive employees”), payout for PSUs is also conditional on compliance with the con- ditions of their award agreements, including but not limited to non-compete, non-solicitation and non-disclosure of conﬁdential information conditions. Current or former executive employees Year ended December 31, 2014 2013 2012 who breach such conditions of their award agreements will for- Number of participants holding shares 18,488 18,488 17,423 Total number of ESIP shares purchased on behalf of employees (millions) 2.1 2.3 Expense for Company contribution (millions) $ 34 $ 30 $ feit the PSU payout. Should the Company reasonably determine that a current or former executive employee may have violated 2.5 24 the conditions of their award agreement, the Company may at its discretion change the manner of vesting of the PSUs to suspend Stock-based compensation plans The following table provides the total stock-based compensation expense for awards under all plans, as well as the related tax bene- ﬁt recognized in income, for the years ended December 31, 2014, 2013 and 2012: In millions Year ended December 31, 2014 2013 2012 Cash settled awards Share Units Plan $ 117 $ 92 $ Voluntary Incentive Deferral Plan (VIDP) 33 35 Total cash settled awards $ 150 $ 127 $ Equity settled awards Share Units Plan Stock option awards $ 2 $ - $ 9 9 Total equity settled awards $ 11 $ 9 $ 76 19 95 - 10 10 Total stock-based compensation expense $ 161 $ 136 $ 105 Tax beneﬁt recognized in income $ 43 $ 35 $ 25 payout on any PSUs pending resolution of such matter. In 2014, the Company granted 0.8 million PSUs, previously known as restricted share units (RSUs), (0.8 million in 2013 and 0.9 million in 2012) to designated management employees en- titling them to receive payout in cash based on the Company’s share price. The value of the payout is equal to the number of PSUs award- ed multiplied by the performance vesting factor and by the 20-day average closing share price ending on January 31 of the follow- ing year. For the plan period ended December 31, 2014, for the 2012 grant, the level of ROIC attained resulted in a performance vesting factor of 150%. As the minimum share price condition under the plan was met, payout of approximately $106 million, calculated using the Company’s average closing share price for the last 20 trading days ending on January 31, 2015, will be paid to employees meeting the conditions of their beneﬁt plans, award or employment agreements in the ﬁrst quarter of 2015. On December 9, 2014, 0.5 million cash settled PSUs granted in 2013 and 0.4 million cash settled PSUs granted in 2014 were modi- ﬁed to settle in common shares of the Company. From the modiﬁca- tion date, these units are accounted for as equity settled awards. As a result, the Company reclassiﬁed $60 million from Other liabilities and deferred credits to Additional paid-in capital in the Consolidated Balance Sheet, which represents the fair value of these PSU awards at the modiﬁcation date. In the future, the Company does not plan to grant additional cash settled PSU awards. 82 2014 Annual Report U.S. GAAP Canadian National Railway Company Notes to Consolidated Financial Statements (b) Voluntary Incentive Deferral Plan the Company’s stock ownership guidelines. The value of each The Company’s Voluntary Incentive Deferral Plan (VIDP) provides participant’s DSUs is payable in cash at the time of cessation of eligible senior management employees the opportunity to elect employment. to receive their annual incentive bonus payment and other eli- On December 9, 2014, 1.7 million cash settled DSUs were gible incentive payments in DSUs up to speciﬁc deferral limits. A modiﬁed to settle in common shares of the Company. From the DSU is equivalent to a common share of the Company and also modiﬁcation date, these units are accounted for as equity settled earns dividends when normal cash dividends are paid on com- awards. As a result, the Company reclassiﬁed $132 million from mon shares. The number of DSUs received by each participant Other liabilities and deferred credits to Additional paid-in capital is calculated using the Company’s average closing share price in the Consolidated Balance Sheet, which represents the fair value for the 20 trading days prior to and including the date of the in- of these DSU awards at the modiﬁcation date. Notwithstanding centive payment. For each participant, the Company will grant a deferrals made in 2014 related to incentive payments of 2015, further 25% of the amount elected in DSUs, which will vest over the Company does not plan to provide participants the option a period of four years. The election to receive eligible incentive to defer their incentive payments into cash settled DSU awards payments in DSUs is no longer available to a participant when in the future. the value of the participant’s vested DSUs is sufﬁcient to meet The following table provides the number of units outstanding and the 2014 activity for all cash settled awards: In millions Outstanding at December 31, 2013 Granted (Payout) Modiﬁcations (1) Forfeited/Settled Vested during year Outstanding at December 31, 2014 PSUs DSUs Nonvested Vested Nonvested Vested 1.7 0.8 (0.9) - (0.9) 0.7 0.9 (0.9) - - 0.9 0.9 - - - - - - 2.3 (0.1) (1.7) - - 0.5 (1) On December 9, 2014, certain cash settled awards were modiﬁed to settle in common shares of the Company. From the modiﬁcation date, these units are accounted for as equity settled awards. Canadian National Railway Company U.S. GAAP 2014 Annual Report 83 Notes to Consolidated Financial Statements 14 Stock plans continued The following table provides valuation and expense information for all cash settled awards: In millions, unless otherwise indicated PSUs (1) DSUs (2) Total Year of grant 2014 2013 2012 2011 2010 2009 Stock-based compensation expense (recovery) recognized over requisite service period Year ended December 31, 2014 Year ended December 31, 2013 (3) Year ended December 31, 2012 Liability outstanding December 31, 2014 December 31, 2013 Fair value per unit December 31, 2014 ($) $ 42 N/A N/A $ 19 N/A $ $ $ $ 33 34 N/A $ $ $ 44 37 24 32 34 $ 106 $ 61 $ $ $ $ $ 34 26 - 80 (2) N/A N/A $ $ (4) 26 $ $ (9) - $ $ $ 33 35 19 $ 150 $ 127 $ 95 N/A N/A $ - $ - $ 40 $ 145 $ 197 $ 320 $ 72.00 $ 79.01 $ 80.02 N/A N/A N/A $ 80.02 N/A Fair value of awards vested during the year Year ended December 31, 2014 Year ended December 31, 2013 Year ended December 31, 2012 $ - N/A N/A $ $ - - N/A $ 106 $ $ $ $ $ - 80 - N/A N/A $ 70 Nonvested awards at December 31, 2014 Unrecognized compensation cost Remaining recognition period (years) $ 17 2.0 $ 10 $ $ - 1.0 N/A N/A Assumptions (5) Stock price ($) Expected stock price volatility (6) Expected term (years) (7) Risk-free interest rate (8) Dividend rate ($) (9) $ 80.02 $ 80.02 $ 80.02 16% 17% 2.0 1.0 1.02% 0.99% $ 1.00 $ 1.00 N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A - - - N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A $ $ $ - 1 1 $ 106 $ $ 81 71 $ - $ 27 N/A (4) N/A $ 80.02 N/A N/A N/A N/A N/A N/A N/A N/A N/A (1) Compensation cost is based on the fair value of the awards at period-end using the lattice-based valuation model that uses the assumptions as presented herein. (2) Compensation cost is based on intrinsic value. (3) Includes the reversal of approximately $20 million of stock-based compensation expense related to the forfeiture of PSUs by former executives. (4) The remaining recognition period has not been quantiﬁed as it relates solely to the 25% Company grant and the dividends earned thereon, representing a minimal number of units. (5) Assumptions used to determine fair value are at December 31, 2014. (6) Based on the historical volatility of the Company’s stock over a period commensurate with the expected term of the award. (7) Represents the remaining period of time that awards are expected to be outstanding. (8) Based on the implied yield available on zero-coupon government issues with an equivalent term commensurate with the expected term of the awards. (9) Based on the annualized dividend rate. 84 2014 Annual Report U.S. GAAP Canadian National Railway Company Notes to Consolidated Financial Statements Equity settled awards (a) Share Units Plan PSUs are settled in common shares of the Company by way of disbursement from the Share Trusts (see Note 13 – Share capital). The objective of the Share Units Plan is to enhance the Company’s The number of shares remitted to the participant upon settlement ability to attract and retain talented employees and to provide align- is equal to the number of PSUs awarded multiplied by the per- ment of interests between such employees and the shareholders of formance vesting factor less shares withheld to satisfy the partici- the Company. The PSUs granted are scheduled to settle at the end pant’s minimum statutory withholding tax requirement. of the plan period and vest conditionally upon the attainment of a target relating to ROIC over the plan period. Such performance (b) Voluntary Incentive Deferral Plan vesting criteria results in a performance vesting factor that ranges The Company’s VIDP provides eligible senior management em- from 0% to 150% depending on the level of ROIC attained. ployees the opportunity to elect to receive their annual incentive Settlement is conditional upon the attainment of a min- bonus payment and other eligible incentive payments in DSUs imum share price, calculated using the average of the last three up to speciﬁc deferral limits. A DSU is equivalent to a common months of the plan period. In addition, commencing at various share of the Company and also earns dividends when normal dates, for executive employees, settlement for PSUs is also con- cash dividends are paid on common shares. The number of DSUs ditional on compliance with the conditions of their beneﬁt plans, received by each participant is established at time of deferral. award or employment agreements, including but not limited to For each participant, the Company will grant a further 25% of non-compete, non-solicitation and non-disclosure of conﬁdential the amount elected in DSUs, which will vest over a period of information conditions. Current or former executive employees four years. The election to receive eligible incentive payments in who breach such conditions of their beneﬁt plans, award or em- DSUs is no longer available to a participant when the value of ployment agreements will forfeit the PSU settlement. Should the the participant’s vested DSUs is sufﬁcient to meet the Company’s Company reasonably determine that a current or former execu- stock ownership guidelines. tive employee may have violated the conditions of their beneﬁt On December 9, 2014, 1.7 million cash settled DSUs were modi- plans, award or employment agreement, the Company may at its ﬁed to settle in common shares of the Company. From the modiﬁ- discretion change the manner of vesting of the PSUs to suspend cation date, these units are accounted for as equity settled awards. settlement on any PSUs pending resolution of such matter. DSUs are settled in common shares of the Company at the time On December 9, 2014, 0.5 million cash settled PSUs granted in of cessation of employment by way of an open market purchase by 2013 and 0.4 million cash settled PSUs granted in 2014 were modi- the Company. The number of shares remitted to the participant is ﬁed to settle in common shares of the Company. From the modiﬁ- equal to the number of DSUs awarded less shares withheld to satisfy cation date, these units are accounted for as equity settled awards. the participant’s minimum statutory withholding tax requirement. The following table provides the number of units outstanding and the 2014 activity for all equity settled awards, other than stock options: PSUs DSUs Outstanding at December 31, 2013 Modiﬁcation (1) (2) Outstanding at December 31, 2014 Units Nonvested In millions - 0.9 0.9 Units Vested In millions - Weighted- average grant date fair value N/A $ 71.05 $ 71.05 - - Units Nonvested In millions - Units Vested In millions - - - 1.7 1.7 Weighted- average grant date fair value N/A $ 76.29 $ 76.29 (1) On December 9, 2014, 0.9 million cash-settled PSUs were modiﬁed to settle in common shares of the Company. From the modiﬁcation date, these units are accounted for as equity settled awards. The modiﬁcation affected PSUs held by 133 employees and did not result in the recognition of incremental compensation cost as the settlement conditions of these awards was unchanged. (2) On December 9, 2014, 1.7 million cash-settled DSUs were modiﬁed to settle in common shares of the Company. From the modiﬁcation date, these units are accounted for as equity settled awards. The modiﬁcation affected DSUs held by 104 employees and did not result in the recognition of incremental compensation cost as the settlement conditions of these awards was unchanged. Vested DSUs are convertible into common shares of the Company at the time of cessation of employment. As at December 31, 2014, the aggregate intrinsic value of vested DSUs amounted to $138 million. Canadian National Railway Company U.S. GAAP 2014 Annual Report 85 Notes to Consolidated Financial Statements 14 Stock plans continued The following table provides valuation and expense information for all equity settled awards, other than stock options: In millions, unless otherwise indicated PSUs (1) DSUs (2) Total Year of grant 2014 2013 Stock-based compensation expense recognized over requisite service period Year ended December 31, 2014 (3) Fair value per unit At grant date ($) (4) Fair value of awards vested during the year Year ended December 31, 2014 Nonvested awards at December 31, 2014 Unrecognized compensation cost Remaining recognition period (years) Assumptions Grant price ($) (6) Expected stock price volatility (7) Expected term (years) (8) Risk-free interest rate (9) Dividend rate ($) (10) $ 1 $ 1 $ - $ 2 $ 66.84 $ 75.15 $ 76.29 N/A $ - $ - $ 1 $ 1 $ 15 $ 8 2.0 1.0 $ 1 $ 24 N/A (5) N/A $ 76.29 $ 76.29 15% 17% 2.0 1.0 1.02% 0.98% $ 1.00 $ 1.00 $ 76.29 N/A N/A N/A N/A N/A N/A N/A N/A N/A (1) Compensation cost is based on the fair value of the awards at the modiﬁcation date using the lattice-based valuation model that uses the assumptions as presented herein. (2) Compensation cost is based on intrinsic value at the modiﬁcation date. (3) Comparative information for the years ended December 31, 2013 and 2012 has not been provided as no equity settled PSUs or DSUs were outstanding. (4) Grant date is December 9, 2014 which is the modiﬁcation date of the cash settled awards to equity settled awards. (5) The remaining recognition period has not been quantiﬁed as it relates solely to the 25% Company grant and the dividends earned thereon, representing a minimal number of units. (6) Stock price at the modiﬁcation date. (7) Based on the historical volatility of the Company’s stock over a period commensurate with the expected term of the award. (8) Represents the remaining period of time that awards are expected to be outstanding. (9) Based on the implied yield available on zero-coupon government issues with an equivalent term commensurate with the expected term of the awards. (10) Based on the annualized dividend rate. 86 2014 Annual Report U.S. GAAP Canadian National Railway Company Notes to Consolidated Financial Statements (c) Stock option awards at December 31, 2014, 19.2 million common shares remained The Company has stock option plans for eligible employees to authorized for future issuances under these plans. acquire common shares of the Company upon vesting at a price For 2014, 2013 and 2012, the Company granted 1.0 million, equal to the market value of the common shares at the date of 1.1 million and 1.2 million, respectively, of conventional stock op- granting. The options issued by the Company are conventional tions to designated executive employees that vest over a period of options that vest over a period of time. The right to exercise op- four years of continuous employment. tions generally accrues over a period of four years of continuous The total number of conventional options outstanding as at employment. Options are not generally exercisable during the ﬁrst December 31, 2014 was 7.5 million. 12 months after the date of grant and expire after 10 years. As The following table provides the activity of stock option awards during 2014, and for options outstanding and exercisable at December 31, 2014, the weighted-average exercise price: Outstanding at December 31, 2013 (1) Granted Exercised Vested Outstanding at December 31, 2014 (1) Exercisable at December 31, 2014 (1) Options outstanding Number Weighted- average of options exercise price In millions 7.7 1.0 $ 30.97 $ 58.74 (1.2) $ 22.97 N/A 7.5 5.0 N/A $ 37.37 $ 30.31 Nonvested options Weighted- Number average grant of options date fair value In millions 2.7 1.0 N/A (1.2) 2.5 N/A $ 7.89 $ 11.09 N/A $ 7.59 $ 9.25 N/A (1) Stock options with a US dollar exercise price have been translated to Canadian dollars using the foreign exchange rate in effect at the balance sheet date. The following table provides the number of stock options outstanding and exercisable as at December 31, 2014 by range of exercise price and their related intrinsic value, and for options outstanding, the weighted-average years to expiration. The table also provides the aggregate intrinsic value for in-the-money stock options, which represents the value that would have been received by option holders had they exercised their options on December 31, 2014 at the Company’s closing stock price of $80.02. Range of exercise prices $16.93 – $23.03 $23.04 – $30.75 $30.76 – $41.85 $41.86 – $57.61 $57.62 – $80.15 Balance at December 31, 2014 (1) of options In millions 0.9 2.6 1.5 1.5 1.0 7.5 Options outstanding Weighted- Number average years Weighted- average to expiration exercise price Aggregate intrinsic value In millions $ 52 139 62 49 20 $ 322 Options exercisable Number Weighted- average of options exercise price In millions 0.9 2.6 1.0 0.5 - 5.0 $ 20.19 $ 27.04 $ 38.19 $ 47.40 $ 58.18 $ 30.31 Aggregate intrinsic value In millions $ 52 139 41 18 - $ 250 3.7 3.3 6.3 7.6 9.1 5.6 $ 20.19 $ 27.04 $ 38.19 $ 48.71 $ 60.29 $ 37.37 (1) Stock options with a US dollar exercise price have been translated to Canadian dollars using the foreign exchange rate in effect at the balance sheet date. As at December 31, 2014, substantially all stock options outstanding were in-the-money. The weighted-average years to expiration of exercisable stock options was 4.4 years. Canadian National Railway Company U.S. GAAP 2014 Annual Report 87 Notes to Consolidated Financial Statements 14 Stock plans continued The following table provides valuation and expense information for all stock option awards: In millions, unless otherwise indicated Year of grant 2014 2013 2012 2011 2010 2009 2008 Total Stock-based compensation expense recognized over requisite service period (1) Year ended December 31, 2014 $ 6 Year ended December 31, 2013 Year ended December 31, 2012 N/A N/A $ $ 1 5 N/A $ $ $ 1 2 4 $ $ $ 1 1 2 $ $ $ - 1 2 N/A N/A $ $ - 2 N/A $ - $ $ $ 9 9 10 Fair value per unit At grant date ($) $ 11.09 $ 8.52 $ 7.74 $ 7.83 $ 6.55 $ 6.30 $ 6.22 N/A Fair value of awards vested during the year Year ended December 31, 2014 $ - Year ended December 31, 2013 Year ended December 31, 2012 N/A N/A $ $ 2 - N/A $ $ $ 2 2 - Nonvested awards at December 31, 2014 Unrecognized compensation cost $ 4 $ 2 $ 1 Remaining recognition period (years) 3.0 2.0 1.0 $ $ $ $ 3 3 2 - - $ $ $ $ 2 2 2 - - $ $ N/A 4 4 N/A N/A N/A N/A $ 3 $ $ $ 9 11 11 N/A N/A $ 7 N/A Assumptions Grant price ($) $ 58.74 $ 47.47 $ 38.35 $ 34.47 $ 27.38 $ 21.07 $ 24.25 Expected stock price volatility (2) 23% 23% 26% 26% 28% 39% 27% Expected term (years) (3) Risk-free interest rate (4) Dividend rate ($) (5) 5.4 5.4 5.4 5.3 5.4 5.3 1.51% 1.41% 1.33% 2.53% 2.44% 1.97% $ 1.00 $ 0.86 $ 0.75 $ 0.65 $ 0.54 $ 0.51 5.3 3.58% $ 0.46 N/A N/A N/A N/A N/A (1) Compensation cost is based on the grant date fair value using the Black-Scholes option-pricing model that uses the assumptions at the grant date. (2) Based on the average of the historical volatility of the Company’s stock over a period commensurate with the expected term of the award and the implied volatility from traded options on the Company’s stock. (3) Represents the period of time that awards are expected to be outstanding. The Company uses historical data to estimate option exercise and employee termination, and groups of employees that have similar historical exercise behavior are considered separately. (4) Based on the implied yield available on zero-coupon government issues with an equivalent term commensurate with the expected term of the awards. (5) Based on the annualized dividend rate. The following table provides information related to stock options Stock price volatility exercised for the years ended December 31, 2014, 2013 and 2012: Compensation cost for the Company’s cash settled Share Units In millions Year ended December 31, 2014 2013 2012 Total intrinsic value Cash received upon exercise of options Related excess tax beneﬁt realized $ 50 $ 45 25 5 28 3 $ 167 102 16 Plan is based on the fair value of the awards at period end using the lattice-based valuation model for which a primary assumption is the Company’s share price. In addition, the Company’s liability for the cash settled VIDP is marked-to-market at period-end and, as such, is also reliant on the Company’s share price. Fluctuations in the Company’s share price cause volatility to stock-based com- pensation expense as recorded in Net income. The Company does not currently hold any derivative ﬁnancial instruments to manage this exposure. A $1 increase in the Company’s share price at December 31, 2014 would have increased stock-based compen- sation expense by $2 million, whereas a $1 decrease in the price would have reduced it by $3 million. 88 2014 Annual Report U.S. GAAP Canadian National Railway Company Notes to Consolidated Financial Statements 15 Accumulated other comprehensive loss In millions Foreign currency Pension and other translation postretirement beneﬁt plans adjustments Derivative instruments Total before tax Income tax recovery (expense) Total net of tax Balance at December 31, 2011 $ (574) $ (2,750) $ 8 $ (3,316) $ 477 $ (2,839) Other comprehensive income (loss) before reclassiﬁcations: Unrealized foreign exchange loss on translation of net investment in foreign operations Unrealized foreign exchange gain on translation of US dollar-denominated long-term debt designated as a hedge of the net investment in U.S. subsidiaries Actuarial loss arising during year Prior service costs from plan amendment arising during year Amounts reclassiﬁed from Accumulated other comprehensive loss: Amortization of net actuarial loss Amortization of prior service cost Other comprehensive income (loss) Balance at December 31, 2012 Other comprehensive income (loss) before reclassiﬁcations: Unrealized foreign exchange gain on translation of net investment in foreign operations Unrealized foreign exchange loss on translation of US dollar-denominated long-term debt designated as a hedge of the net investment in U.S. subsidiaries Actuarial gain arising during year Amounts reclassiﬁed from Accumulated other comprehensive loss: Amortization of net actuarial loss Amortization of prior service cost Other comprehensive income (loss) (128) 123 (5) (660) (6) 119 7 (540) $ (579) $ (3,290) $ 440 (394) 46 1,544 226 5 1,775 Balance at December 31, 2013 $ (533) $ (1,515) $ Other comprehensive income (loss) before reclassiﬁcations: Unrealized foreign exchange gain on translation of net investment in foreign operations Unrealized foreign exchange loss on translation of US dollar-denominated long-term debt designated as a hedge of the net investment in U.S. subsidiaries Actuarial loss arising during year Prior service costs from plan amendment arising during year Amounts reclassiﬁed from Accumulated other comprehensive loss: Amortization of net actuarial loss Amortization of prior service cost Amortization of gain on treasury lock Other comprehensive income (loss) 644 (569) (1,117) (4) 120 6 75 (995) Balance at December 31, 2014 $ (458) $ (2,510) $ (128) 2 (126) 123 (660) (6) 119 (1) 7 (1) (19) 176 2 (32) (2) (2) (2) 104 (484) (4) 87 5 (545) 127 (418) $ (3,861) $ 604 $ (3,257) 440 7 447 (394) 1,544 52 (412) (342) 1,132 226 (1) 5 (1) (60) (2) (1) (2) 166 4 1,821 (414) 1,407 $ (2,040) $ 190 $ (1,850) - 8 - 8 644 4 648 (569) (1,117) (4) 120 (1) 6 (1) (1) (921) 73 300 1 (32) (2) (2) (2) - 344 (496) (817) (3) 88 4 (1) (577) $ (2,961) $ 534 $ (2,427) (1) (3) (1) 7 (1) Reclassiﬁed to Labor and fringe beneﬁts on the Consolidated Statement of Income and included in components of net periodic beneﬁt cost. See Note 12 – Pensions and other postretirement beneﬁts. (2) Included in Income tax expense on the Consolidated Statement of Income. (3) Related to treasury lock transactions settled in prior years, which are being amortized over the terms of the related debt to Interest expense on the Consolidated Statement of Income. . Canadian National Railway Company U.S. GAAP 2014 Annual Report 89 Notes to Consolidated Financial Statements 16 Major commitments and contingencies individual communities and a comprehensive voluntary mitigation program established to address surrounding municipalities’ concerns. Leases The Company has operating and capital leases, mainly for loco- Contingencies motives, freight cars and intermodal equipment. Of the capital leases, many provide the option to purchase the leased items at ﬁxed values during or at the end of the lease term. As at December 31, 2014, the Company’s commitments under these operating and capital leases were $712 million and $815 million, respectively. Minimum rental payments for operating leases having initial non-cancelable lease terms of more than one year and min- imum lease payments for capital leases for the next ﬁve years and In the normal course of business, the Company becomes involved in various legal actions seeking compensatory and occasionally punitive damages, including actions brought on behalf of various purported classes of claimants and claims relating to employee and third-party personal injuries, occupational disease and property damage, arising out of harm to individuals or property allegedly caused by, but not limited to, derailments or other accidents. thereafter, are as follows: Canada In millions Operating Capital 2015 2016 2017 2018 2019 2020 and thereafter Total Less: Imputed interest on capital leases at rates ranging from approximately 0.7% to 8.5% Present value of minimum lease payments included in debt (Note 10) $ 155 116 94 77 56 214 $ 712 $ 107 343 164 15 15 171 815 145 $ 670 Employee injuries are governed by the workers’ compensation legislation in each province whereby employees may be awarded either a lump sum or a future stream of payments depending on the nature and severity of the injury. As such, the provision for employee injury claims is discounted. In the provinces where the Company is self-insured, costs related to employee work-related injuries are accounted for based on actuarially developed esti- mates of the ultimate cost associated with such injuries, including compensation, health care and third-party administration costs. A comprehensive actuarial study is generally performed at least on a triennial basis. For all other legal actions, the Company maintains, and regularly updates on a case-by-case basis, provisions for such items when the expected loss is both probable and can be reason- The Company also has operating lease agreements for its ably estimated based on currently available information. automotive ﬂeet with one-year non-cancelable terms for which its practice is to renew monthly thereafter. The estimated annual rental payments for such leases are approximately $25 million and In 2014, the Company recorded a $2 million decrease to its provision for personal injuries and other claims in Canada as a re- sult of a comprehensive actuarial study for employee injury claims generally extend over ﬁve years. Rent expense for all operating leases was $201 million, $179 million and $162 million for the years ended December 31, 2014, 2013 and 2012, respectively. Contingent rentals and sub- as well as various other legal claims. As at December 31, 2014, 2013 and 2012, the Company’s pro- vision for personal injury and other claims in Canada was as follows: lease rentals were not signiﬁcant. In millions 2014 2013 2012 Commitments As at December 31, 2014, the Company had commitments to ac- quire railroad ties, rail, freight cars, locomotives, and other equip- ment and services, as well as outstanding information technology service contracts and licenses, at an aggregate cost of $1,054 mil- lion ($482 million as at December 31, 2013). The Company also Beginning of year Accruals and other Payments End of year $ 210 $ 209 $ 199 28 (35) 38 (37) 55 (45) $ 203 $ 210 $ 209 Current portion – End of year $ 28 $ 31 $ 39 has estimated remaining commitments of approximately $522 mil- United States lion (US$450 million), in relation to the U.S. federal government Personal injury claims by the Company’s employees, including legislative requirement to implement Positive Train Control (PTC) claims alleging occupational disease and work-related injuries, are by December 31, 2015. subject to the provisions of the Federal Employers’ Liability Act In addition, the Company has estimated remaining commit- (FELA). Employees are compensated under FELA for damages as- ments, through to December 31, 2016, of approximately $65 million sessed based on a ﬁnding of fault through the U.S. jury system (US$56 million), in relation to the acquisition of the principal lines of or through individual settlements. As such, the provision is undis- the former Elgin, Joliet and Eastern Railway Company. These commit- counted. With limited exceptions where claims are evaluated on ments are for railroad infrastructure improvements, grade separation a case-by-case basis, the Company follows an actuarial-based ap- projects as well as commitments under a series of agreements with proach and accrues the expected cost for personal injury, including 90 2014 Annual Report U.S. GAAP Canadian National Railway Company Notes to Consolidated Financial Statements asserted and unasserted occupational disease claims, and property considers, where a probable loss estimate cannot be made with rea- damage claims, based on actuarial estimates of their ultimate cost. sonable certainty, a range of potential probable losses for each such A comprehensive actuarial study is performed annually. matter, and records the amount it considers the most reasonable esti- For employee work-related injuries, including asserted occupa- mate within the range. However, when no amount within the range tional disease claims, and third-party claims, including grade cross- is a better estimate than any other amount, the minimum amount in ing, trespasser and property damage claims, the actuarial valuation the range is accrued. For matters where a loss is reasonably possible considers, among other factors, the Company’s historical patterns but not probable, a range of potential losses cannot be estimated of claims ﬁlings and payments. For unasserted occupational disease due to various factors which may include the limited availability of claims, the actuarial study includes the projection of the Company’s facts, the lack of demand for speciﬁc damages and the fact that experience into the future considering the potentially exposed proceedings were at an early stage. Based on information currently population. The Company adjusts its liability based upon manage- available, the Company believes that the eventual outcome of the ment’s assessment and the results of the study. On an ongoing actions against the Company will not, individually or in the aggre- basis, management reviews and compares the assumptions inher- gate, have a material adverse effect on the Company’s consolidated ent in the latest actuarial study with the current claim experience ﬁnancial position. However, due to the inherent inability to predict and, if required, adjustments to the liability are recorded. with certainty unforeseeable future developments, there can be no Due to the inherent uncertainty involved in projecting future assurance that the ultimate resolution of these actions will not have a events, including events related to occupational diseases, which material adverse effect on the Company’s results of operations, ﬁnan- include but are not limited to, the timing and number of actual cial position or liquidity in a particular quarter or ﬁscal year. claims, the average cost per claim and the legislative and judicial en- vironment, the Company’s future payments may differ from current Environmental matters amounts recorded. The Company’s operations are subject to numerous federal, provin- In 2014, the Company recorded a $20 million reduction to its cial, state, municipal and local environmental laws and regulations provision for U.S. personal injury and other claims attributable to in Canada and the U.S. concerning, among other things, emissions non-occupational disease claims, third-party claims and occupa- into the air; discharges into waters; the generation, handling, stor- tional disease claims pursuant to the 2014 external actuarial study. age, transportation, treatment and disposal of waste, hazardous In previous years, external actuarial studies have supported a net substances, and other materials; decommissioning of underground decrease of $11 million and a net increase of $1 million to the and aboveground storage tanks; and soil and groundwater con- Company’s provision for U.S. personal injury and other claims in tamination. A risk of environmental liability is inherent in railroad 2013 and 2012, respectively. The decrease of $11 million from the and related transportation operations; real estate ownership, oper- 2013 actuarial valuation was mainly attributable to non-occupation- ation or control; and other commercial activities of the Company al disease claims, third-party claims and occupational disease claims, with respect to both current and past operations. reﬂecting a decrease in the Company’s estimates of unasserted claims and costs related to asserted claims. The Company has an Known existing environmental concerns ongoing risk mitigation strategy focused on reducing the frequency The Company has identiﬁed approximately 255 sites at which it and severity of claims through injury prevention and containment; is or may be liable for remediation costs, in some cases along mitigation of claims; and lower settlements of existing claims. with other potentially responsible parties, associated with alleged As at December 31, 2014, 2013 and 2012, the Company’s pro- contamination and is subject to environmental clean-up and en- vision for personal injury and other claims in the U.S. was as follows: forcement actions, including those imposed by the United States In millions Beginning of year Accruals and other Payments Foreign exchange End of year 2014 2013 2012 Federal Comprehensive Environmental Response, Compensation and Liability Act of 1980 (CERCLA), also known as the Superfund $ 106 $ 105 $ 111 law, or analogous state laws. CERCLA and similar state laws, in 2 (22) 9 18 (24) 7 31 (34) (3) addition to other similar Canadian and U.S. laws, generally im- pose joint and several liability for clean-up and enforcement costs on current and former owners and operators of a site, as well as $ 95 $ 106 $ 105 those whose waste is disposed of at the site, without regard to Current portion – End of year $ 20 $ 14 $ 43 Although the Company considers such provisions to be adequate for all its outstanding and pending claims, the ﬁnal outcome with respect to actions outstanding or pending at December 31, 2014, or with respect to future claims, cannot be reasonably determined. fault or the legality of the original conduct. The Company has been notiﬁed that it is a potentially responsible party for study and clean-up costs at approximately 10 sites governed by the Superfund law (and analogous state laws) for which investigation and remediation payments are or will be made or are yet to be determined and, in many instances, is one of several potentially When establishing provisions for contingent liabilities the Company responsible parties. Canadian National Railway Company U.S. GAAP 2014 Annual Report 91 Notes to Consolidated Financial Statements 16 Major commitments and contingencies Unknown existing environmental concerns continued The ultimate cost of addressing these known contaminated sites cannot be deﬁnitively established given that the estimated environmental liability for any given site may vary depending on the nature and extent of the contamination; the nature of antici- pated response actions, taking into account the available clean- up techniques; evolving regulatory standards governing environ- mental liability; and the number of potentially responsible parties and their ﬁnancial viability. As a result, liabilities are recorded While the Company believes that it has identiﬁed the costs likely to be incurred for environmental matters based on known informa- tion, the discovery of new facts, future changes in laws, the possi- bility of releases of hazardous materials into the environment and the Company’s ongoing efforts to identify potential environmental liabilities that may be associated with its properties may result in the identiﬁcation of additional environmental liabilities and related costs. The magnitude of such additional liabilities and the costs of complying with future environmental laws and containing or remediating contamination cannot be reasonably estimated due based on the results of a four-phase assessment conducted on to many factors, including: a site-by-site basis. A liability is initially recorded when environ- (a) the lack of speciﬁc technical information available with respect mental assessments occur, remedial efforts are probable, and to many sites; when the costs, based on a speciﬁc plan of action in terms of the (b) the absence of any government authority, third-party orders, or technology to be used and the extent of the corrective action re- claims with respect to particular sites; quired, can be reasonably estimated. The Company estimates the costs related to a particular site using cost scenarios established by external consultants based on the extent of contamination (c) the potential for new or changed laws and regulations and for development of new remediation technologies and uncertainty regarding the timing of the work with respect to particular and expected costs for remedial efforts. In the case of multiple sites; and parties, the Company accrues its allocable share of liability taking into account the Company’s alleged responsibility, the number of potentially responsible parties and their ability to pay their respective share of the liability. Adjustments to initial estimates are recorded as additional information becomes available. The Company’s provision for speciﬁc environmental sites is undiscounted and includes costs for remediation and restoration of sites, as well as monitoring costs. Environmental expenses, which are classiﬁed as Casualty and other in the Consolidated Statement of Income, include amounts for newly identiﬁed sites or contaminants as well as adjustments to initial estimates. Recoveries of environmental remediation costs from other parties are recorded as assets when their receipt is deemed probable. As at December 31, 2014, 2013 and 2012, the Company’s provision for speciﬁc environmental sites was as follows: (d) the determination of the Company’s liability in proportion to other potentially responsible parties and the ability to recover costs from any third parties with respect to particular sites. Therefore, the likelihood of any such costs being incurred or whether such costs would be material to the Company cannot be determined at this time. There can thus be no assurance that liabilities or costs related to environmental matters will not be incurred in the future, or will not have a material adverse effect on the Company’s ﬁnan- cial position or results of operations in a particular quarter or ﬁscal year, or that the Company’s liquidity will not be adversely impacted by such liabilities or costs, although management believes, based on current information, that the costs to address environmental matters will not have a material adverse effect on the Company’s ﬁnancial position or liquidity. Costs related to any unknown existing or future contamination will be accrued in the period in which they In millions 2014 2013 2012 become probable and reasonably estimable. Beginning of year $ 119 $ 123 $ 152 Accruals and other Payments Foreign exchange 11 (19) 3 12 (18) 2 (4) (24) (1) End of year $ 114 $ 119 $ 123 Current portion – End of year $ 45 $ 41 $ 31 Future occurrences In railroad and related transportation operations, it is possible that derailments or other accidents, including spills and releases of hazard- ous materials, may occur that could cause harm to human health or to the environment. As a result, the Company may incur costs in the future, which may be material, to address any such harm, compliance The Company anticipates that the majority of the liability at with laws and other risks, including costs relating to the performance December 31, 2014 will be paid out over the next ﬁve years. of clean-ups, payment of environmental penalties and remediation However, some costs may be paid out over a longer period. Based obligations, and damages relating to harm to individuals or property. on the information currently available, the Company considers its provisions to be adequate. Regulatory compliance The Company may incur signiﬁcant capital and operating costs associated with environmental regulatory compliance and clean-up requirements, in its railroad operations and relating to its past and 92 2014 Annual Report U.S. GAAP Canadian National Railway Company Notes to Consolidated Financial Statements present ownership, operation or control of real property. Operating expects to make a payment in respect of a guarantee, a liability will expenses for environmental matters amounted to $20 million in be recognized to the extent that one has not yet been recognized. 2014, $18 million in 2013 and $16 million in 2012. In addition, based The Company had not recorded a liability as at December 31, 2014, on the results of its operations and maintenance programs, as well with respect to its guarantee instruments as they related to the as ongoing environmental audits and other factors, the Company Company’s future performance and the Company did not expect to plans for speciﬁc capital improvements on an annual basis. Certain make any payments under its guarantee instruments. of these improvements help ensure facilities, such as fuelling sta- tions and waste water and storm water treatment systems, comply General indemniﬁcations with environmental standards and include new construction and the In the normal course of business, the Company has provided updating of existing systems and/or processes. Other capital expendi- indemniﬁcations, customary for the type of transaction or for tures relate to assessing and remediating certain impaired properties. the railway business, in various agreements with third parties, The Company’s environmental capital expenditures amounted to including indemniﬁcation provisions where the Company would $19 million in 2014, $10 million in 2013 and $13 million in 2012. be required to indemnify third parties and others. Indemniﬁcations are found in various types of contracts with third parties which Guarantees and indemniﬁcations include, but are not limited to: In the normal course of business, the Company, including certain of • contracts granting the Company the right to use or enter upon its subsidiaries, enters into agreements that may involve providing property owned by third parties such as leases, easements, guarantees or indemniﬁcations to third parties and others, which may trackage rights and sidetrack agreements; extend beyond the term of the agreements. These include, but are • contracts granting rights to others to use the Company’s prop- not limited to, residual value guarantees on operating leases, standby erty, such as leases, licenses and easements; letters of credit, surety and other bonds, and indemniﬁcations that • contracts for the sale of assets; are customary for the type of transaction or for the railway business. • contracts for the acquisition of services; • ﬁnancing agreements; Guarantees • trust indentures, ﬁscal agency agreements, underwriting (a) Guarantee of residual values of operating leases agreements or similar agreements relating to debt or equity The Company has guaranteed a portion of the residual values of securities of the Company and engagement agreements with certain of its assets under operating leases with expiry dates be- ﬁnancial advisors; tween 2015 and 2022, for the beneﬁt of the lessor. If the fair value • transfer agent and registrar agreements in respect of the of the assets at the end of their respective lease term is less than Company’s securities; the fair value, as estimated at the inception of the lease, then the • trust and other agreements relating to pension plans and Company must, under certain conditions, compensate the lessor other plans, including those establishing trust funds to secure for the shortfall. As at December 31, 2014, the maximum expos- payment to certain ofﬁcers and senior employees of special ure in respect of these guarantees was $194 million. There are retirement compensation arrangements; no recourse provisions to recover any amounts from third parties. • pension transfer agreements; • master agreements with ﬁnancial institutions governing deriv- (b) Other guarantees ative transactions; As at December 31, 2014, the Company, including certain of its • settlement agreements with insurance companies or other third subsidiaries, had granted $487 million of irrevocable standby let- parties whereby such insurer or third-party has been indemniﬁed ters of credit and $106 million of surety and other bonds, issued for any present or future claims relating to insurance policies, by highly rated ﬁnancial institutions, to third parties to indemnify incidents or events covered by the settlement agreements; and them in the event the Company does not perform its contractual • acquisition agreements. obligations. As at December 31, 2014, the maximum potential liability under these guarantee instruments was $593 million, of To the extent of any actual claims under these agreements, the which $525 million related to workers’ compensation and other Company maintains provisions for such items, which it considers employee beneﬁt liabilities and $68 million related to other liabil- to be adequate. Due to the nature of the indemniﬁcation clauses, ities. The letters of credit were drawn on the Company’s bilateral the maximum exposure for future payments may be material. letter of credit facilities. The majority of the guarantee instruments However, such exposure cannot be reasonably determined. mature at various dates between 2015 and 2016. During the year, the Company entered into various indemniﬁ- cation contracts with third parties for which the maximum expos- The Company is required to recognize a liability for the fair value of ure for future payments cannot be reasonably determined. As a the obligation undertaken in issuing certain guarantees on the date result, no liability was recorded. There are no recourse provisions the guarantee is issued or modiﬁed. In addition, where the Company to recover any amounts from third parties. Canadian National Railway Company U.S. GAAP 2014 Annual Report 93 Notes to Consolidated Financial Statements 17 Financial instruments Risk management In the normal course of business, the Company is exposed to vari- As at December 31, 2014, Accumulated other comprehensive loss included an unamortized gain of $7 million, $5 million af- ter-tax ($8 million, $6 million after-tax as at December 31, 2013) relating to treasury lock transactions settled in a prior year, which ous risks from its use of ﬁnancial instruments. To manage these is being amortized over the term of the related debt. risks, the Company follows a ﬁnancial risk management frame- work, which is monitored and approved by the Company’s Finance Fair value of ﬁnancial instruments Committee, with a goal of maintaining a strong balance sheet, optimizing earnings per share and free cash ﬂow, ﬁnancing its operations at an optimal cost of capital and preserving its liquidity. The Company has limited involvement with derivative ﬁnancial instruments in the management of its risks and does not hold or issue them for trading or speculative purposes. Foreign currency risk The Company conducts its business in both Canada and the U.S. and as a result, is affected by currency ﬂuctuations. Changes in the exchange rate between the Canadian dollar and other currencies affect the Company’s revenues and expenses. For ﬁnancial assets and liabilities measured at fair value on a recur- ring basis, fair value is the price the Company would receive to sell an asset or pay to transfer a liability in an orderly transaction with a market participant at the measurement date. In the absence of active markets for identical assets or liabilities, such measurements involve developing assumptions based on market observable data and, in the absence of such data, internal information that is be- lieved to be consistent with what market participants would use in a hypothetical transaction that occurs at the measurement date. Observable inputs reﬂect market data obtained from independent sources, while unobservable inputs reﬂect the Company’s market assumptions. Preference is given to observable inputs. These two To manage foreign currency risk, the Company designates US types of inputs create the following fair value hierarchy: dollar-denominated long-term debt of the parent company as a foreign currency hedge of its net investment in U.S. subsidiaries. As a result, from the dates of designation, foreign exchange gains and losses on translation of the Company’s US dollar-denominated long-term debt are recorded in Accumulated other comprehen- sive loss, which minimizes volatility of earnings resulting from the conversion of US dollar-denominated long-term debt into the Canadian dollar; and enters into foreign exchange contracts as part of its cash management strategy. As at December 31, 2014, the Company had outstanding foreign exchange forward contracts with a notional value of US$350 million Level 1: Quoted prices for identical instruments in active markets. Level 2: Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in mar- kets that are not active; and model-derived valuations whose inputs are observable or whose signiﬁcant value drivers are observable. Level 3: Signiﬁcant inputs to the valuation model are unobservable. The Company uses the following methods and assumptions to estimate the fair value of each class of ﬁnancial instruments for which the carrying amounts are included in the Consolidated (US$325 million as at December 31, 2013). Changes in the fair value Balance Sheet under the following captions: of forward contracts, resulting from changes in foreign exchange rates, are recognized in Other income in the Consolidated Statement of Income as they occur. For the year ended December 31, 2014, the Cash and cash equivalents, Restricted cash and cash equiva- lents, Accounts receivable, Other current assets, Accounts Company recorded a gain of $9 million ($6 million in 2013), before payable and other tax, related to the fair value of the foreign exchange forward contracts. As at December 31, 2014 and 2013, the Company did not have any other signiﬁcant derivative ﬁnancial instruments outstanding. Interest rate risk 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 The carrying amounts approximate fair value because of the short maturity of these instruments. Cash and cash equivalents and Restricted cash and cash equivalents include highly liquid in- vestments purchased three months or less from maturity and are classiﬁed as Level 1. Accounts receivable, Other current assets, and Accounts payable and other are classiﬁed as Level 2 as they may not be priced using quoted prices, but rather determined from result of changes in market interest rates. Such risk exists in relation to market observable information. the Company’s long-term debt. The Company mainly issues ﬁxed-rate debt, which exposes the Company to variability in the fair value of Intangible and other assets the debt. The Company also issues debt with variable interest rates, which exposes the Company to variability in interest expense. To manage interest rate risk, the Company manages its bor- rowings in line with liquidity needs, maturity schedule, and cur- rency and interest rate proﬁle; and in anticipation of future debt issuances, may enter into forward rate agreements. Included in Intangible and other assets are equity investments for which the carrying value approximates the fair value, with the exception of certain cost investments for which the fair value is estimated based on the Company’s proportionate share of the underlying net assets. Investments are classiﬁed as Level 3 as their fair value is based on signiﬁcant unobservable inputs. 94 2014 Annual Report U.S. GAAP Canadian National Railway Company Notes to Consolidated Financial Statements Debt discounted cash ﬂows using current interest rates for debt with similar The fair value of the Company’s debt is estimated based on the quot- terms, company rating, and remaining maturity. The Company’s debt ed market prices for the same or similar debt instruments, as well as is classiﬁed as Level 2. The following table provides the carrying amounts and estimated fair values of the Company’s ﬁnancial instruments as at December 31, 2014 and December 31, 2013 for which the carrying values on the Consolidated Balance Sheet are different from their fair values: In millions Financial assets Investments (Note 8) Financial liabilities Total debt (Note 10) December 31, 2014 December 31, 2013 Carrying amount Fair value Carrying amount Fair value $ 58 $ 183 $ 57 $ 164 $ 8,409 $ 9,767 $ 7,840 $ 8,683 18 Segmented information The regions also demonstrate common characteristics in each of the following areas: The Company manages its operations as one business segment (a) each region’s sole business activity is the transportation of over a single network that spans vast geographic distances and freight over the Company’s extensive rail network; territories, with operations in Canada and the U.S. Financial infor- (b) the regions service national accounts that extend over the mation reported at this level, such as revenues, operating income, Company’s various commodity groups and across its rail network; and cash ﬂow from operations, is used by corporate management, (c) the services offered by the Company stem predominantly including the Company’s chief operating decision-maker, in evalu- from the transportation of freight by rail with the goal of ating ﬁnancial and operational performance and allocating resour- optimizing the rail network as a whole; and ces across CN’s network. (d) the Company and its subsidiaries, not its regions, are subject The Company’s strategic initiatives, which drive its operation- to single regulatory regimes in both Canada and the U.S. al direction, are developed and managed centrally by corporate management and are communicated to its regional activity cen- For the years ended December 31, 2014, 2013, and 2012, no ters (the Western Region, Eastern Region and Southern Region). major customer accounted for more than 10% of total revenues Corporate management is responsible for, among others, CN’s and the largest rail freight customer represented approximately marketing strategy, the management of large customer accounts, 2% of total rail freight revenues. overall planning and control of infrastructure and rolling stock, For the reasons mentioned herein, the Company reports as one the allocation of resources, and other functions such as ﬁnancial operating segment. planning, accounting and treasury. The following tables provide information by geographic area: The role of each region is to manage the day-to-day service re- quirements within their respective territories and control direct costs In millions Year ended December 31, 2014 2013 2012 incurred locally. Such cost control is required to ensure that pre- Revenues established efﬁciency standards set at the corporate level are met. The regions execute the overall corporate strategy and operating Canada U.S. plan established by corporate management, as their management of Total revenues throughput and control of direct costs does not serve as the platform for the Company’s decision-making process. Approximately 95% of the Company’s freight revenues are from national accounts for which freight trafﬁc spans North America and touches various commodity groups. As a result, the Company does not manage revenues on a regional basis since a large number of the movements originate in one region and pass through and/or terminate in another region. Net income Canada U.S. $ 8,108 $ 7,149 $ 6,770 4,026 3,426 3,150 $ 12,134 $ 10,575 $ 9,920 $ 2,249 $ 1,762 $ 1,972 918 850 708 Total net income $ 3,167 $ 2,612 $ 2,680 In millions Properties Canada U.S. Total properties December 31, 2014 2013 $ 15,798 $ 15,056 12,716 11,171 $ 28,514 $ 26,227 Canadian National Railway Company U.S. GAAP 2014 Annual Report 95 Corporate Governance – Delivering Responsibly CN is committed to being a responsible corporate citizen. At CN, Because it is important to CN to uphold the highest standards sound corporate citizenship touches nearly every aspect of what in corporate governance and that any potential or real wrong- we do, from governance to business ethics, from safety to en- doings be reported, CN has also adopted methods allowing em- vironmental protection. Central to this comprehensive approach ployees and third parties to report accounting, auditing and other is our strong belief that good corporate citizenship is simply good concerns, as more fully described on our website. business. We are proud of our corporate governance practices. For more CN has always recognized the importance of good governance. information on these practices, please refer to our website, as well As it evolved from a Canadian institution to a North American as to our proxy circular – mailed to our shareholders and also avail- publicly traded company, CN voluntarily followed certain corpor- able on our website. CN understands that our long-term success is ate governance requirements that, as a company based in Canada, connected to our contribution to a sustainable future. That is why it was not technically compelled to follow. We continue to do so we are committed to the safety of our employees, the public and today. Since many of our peers – and shareholders – are based the environment; delivering reliable, efﬁcient service so our cus- in the United States, we want to provide the same assurances of tomers succeed in global markets; building stronger communities; sound practices as our U.S. competitors. and providing a great place to work. Our sustainability activities Hence, we adopt and adhere to corporate governance are outlined in our Delivering Responsibly report, which can be practices that either meet or exceed applicable Canadian and found on our website: www.cn.ca U.S. corporate governance standards. As a Canadian reporting For the third straight year, CN’s practices have earned it a place issuer with securities listed on the Toronto Stock Exchange (TSX) on the Dow Jones Sustainability World Index (DJSI), which includes and the New York Stock Exchange (NYSE), CN complies with applic- an assessment of CN’s governance practices, in addition to being able rules adopted by the Canadian Securities Administrators and named to the DJSI North America index for the sixth consecutive the rules of the U.S. Securities and Exchange Commission giving year. CN was also recognized for climate change transparency for effect to the provisions of the U.S. Sarbanes-Oxley Act of 2002. the sixth year in a row by earning a position in CDP’s Canada 200 As a Canadian company, we are not required to comply with Climate Disclosure Leadership Index. many of the NYSE corporate governance rules, and instead may CN received the Best Corporate Governance Award from comply with Canadian governance practices. However, except IR Magazine in 2009, 2010, 2014 and 2015. As well, in 2011 as summarized on our website (www.cn.ca in the Delivering we received the Canadian Coalition for Good Governance (CCGG) Responsibly – Governance section), our governance prac tices Award for Best Disclosure of Board Governance Practices and comply with the NYSE corporate governance rules in all signiﬁcant Director Qualiﬁcations; and in 2012 the CCGG Award for Best respects. Disclosure of Approach to Executive Compensation. Consistent with the belief that ethical conduct goes be- yond compliance and resides in a solid governance culture, the Delivering Responsibly – Governance section on the CN website contains CN’s Corporate Governance Manual (including the char- ters of our Board and of our Board committees) and CN’s Code of Business Conduct. Printed versions of these documents are also available upon request to CN’s Corporate Secretary. 96 2014 Annual Report Canadian National Railway Company Contents 1 A message from the Chairman 2 A message from Claude Mongeau 4 Building for the future: With network capacity With the next generation Through innovation With safety as a priority 8 Expanding our network 10 Board of Directors 11 Financial Section (U.S. GAAP) 96 Corporate Governance – Delivering Responsibly 97 Shareholder and Investor Information Except where otherwise indicated, all ﬁnancial information reﬂected in this document is expressed in Canadian dollars and determined on the basis of United States gener- ally accepted accounting principles (U.S. GAAP). Certain information included in this annual report constitutes “forward-looking statements” within the meaning of the United States Private Securities Litigation Reform Act of 1995 and under Canadian securities laws. CN cautions that, by their nature, these forward-looking statements involve risks, uncertainties and assumptions. The Company cautions that its assumptions may not materialize and that current economic conditions render such assumptions, although reasonable at the time they were made, subject to greater uncertainty. Such forward-looking statements are not guarantees of future performance and involve known and unknown risks, uncertainties and other factors which may cause the actual results or performance of the Company or the rail industry to be materially different from the outlook or any future results or performance implied by such statements. Important risk factors that could affect the forward-looking statements include, but are not limited to, the effects of general economic and business conditions, industry competition, inﬂation, currency and interest rate ﬂuctuations, changes in fuel prices, legislative and/or regulatory developments, compliance with environmental laws and regulations, actions by regulators, various events which could disrupt operations, including natural events such as severe weather, droughts, ﬂoods and earthquakes, labor negotiations and disruptions, environmental claims, uncertainties of investigations, proceedings or other types of claims and litigation, risks and liabilities arising from derailments, and other risks detailed from time to time in reports ﬁled by CN with securities regulators in Canada and the United States. Reference should be made to “Manage- ment’s Discussion and Analysis” in CN’s annual and interim reports, Annual Information Form and Form 40-F ﬁled with Canadian and U.S. securities regulators, available on CN’s website (www.cn.ca), for a summary of major risks. CN assumes no obligation to update or revise forward-looking statements to reﬂect future events, changes in circum- stances, or changes in beliefs, unless required by applicable Canadian securities laws. In the event CN does update any forward-looking statement, no inference should be made that CN will make additional updates with respect to that state- ment, related matters, or any other forward-looking statement. As used herein, the word “Company” or “CN” means, as the context requires, Canadian National Railway Company and/ or its subsidiaries. Shareholder and Investor Information Annual meeting The annual meeting of shareholders will be held at 8:30 a.m. CDT on April 21, 2015 at: The Peabody Memphis Venetian Room 149 Union Avenue Memphis, Tennessee, US Annual information form The annual information form may be obtained by writing to: The Corporate Secretary Canadian National Railway Company 935 de La Gauchetière Street West Montreal, Quebec H3B 2M9 It is also available on CN’s website. Transfer agent and registrar Computershare Trust Company of Canada Ofﬁces in: Montreal, Quebec; Toronto, Ontario; Calgary, Alberta; Vancouver, British Columbia Telephone: 1-800-564-6253 www.investorcentre.com Co-transfer agent and co-registrar Computershare Trust Company N.A. Att: Stock Transfer Department Overnight Mail Delivery: 250 Royall Street, Canton MA 02021 Regular Mail Delivery: P.O. Box 43078, Providence, RI 02940-3078 Telephone: 1-800-962-4284 Shareholder services Shareholders having inquiries concerning their shares, wishing to obtain information about CN, or to receive dividends by direct deposit or in U.S. dollars may obtain detailed information by communicating with: Computershare Trust Company of Canada Shareholder Services 100 University Avenue, 8th Floor Toronto, Ontario M5J 2Y1 Telephone: 1-800-564-6253 www.investorcentre.com Stock exchanges CN common shares are listed on the Toronto and New York stock exchanges. Ticker symbols: CNR (Toronto Stock Exchange) CNI (New York Stock Exchange) Investor relations Janet Drysdale Vice-President, Investor Relations Telephone: 514-399-0052 Head ofﬁce Canadian National Railway Company 935 de La Gauchetière Street West Montreal, Quebec H3B 2M9 P.O. Box 8100 Montreal, Quebec H3C 3N4 Additional copies of this report are available from: CN Public Affairs 935 de La Gauchetière Street West Montreal, Quebec H3B 2M9 Telephone: 1-888-888-5909 Email: contact@cn.ca La version française du présent rapport est disponible à l’adresse suivante : Affaires publiques du CN 935, rue de La Gauchetière Ouest Montréal (Québec) H3B 2M9 Téléphone : 1-888-888-5909 Courriel : contact@cn.ca Canadian National Railway Company 2014 Annual Report 97 This report has been printed on 100% post-consumer paper. BUILDING FOR THE FUTURE FUTURE 2 0 1 4 A N N U A L R E P O R T 935 de La Gauchetière Street West Montreal, Quebec H3B 2M9 www.cn.ca 2 0 1 4 A N N U A L R E P O R T

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