31 October 2017 Railroads Canadian Rails Rating Buy North America Canada Company Canadian Pacific industrials Railroads CPN CPUS Shifting Gears, Initiate Buy/$209 price target Following its multi-year implementation of Precision Railroading, CP is shifting gears from cost take-out to top-line growth. As such, we see at least 15% upside in shares as CP leverages its reduced cost base, improved service levels, and recent capacity investments to retake market share. We expect this to translate to 30% cumulative EPS growth over the next two years, reflecting mid- single digit revenue growth, significant operating leverage, and accelerated share repurchase. Against this backdrop we see CP's relative valuation discount as unsustainable, which underpins our positive stance to shares. Initiate Buy. CP is putting the pieces together to leverage a better network After bringing its cost base closer in-line with CNI, CP has undertaken a number of initiatives aimed at growing its top-line and taking market share. Further, it has made a number of capacity investments in order to improve service levels and more profitably handle volume growth across its network and reinvigorated its sales/marketing efforts to expand existing relationships and win new business. At the end of the day, we believe CP is poised to drive best in class volume growth and increase operating leverage as it targets higher margin business. To this point, we forecast volume growth (measured by revenue ton-miles [RTM's]) to increase at a 3.1% CAGR over the next two years compared to 2.4% CAGR at CM. In addition to CP's company-specific initiatives, we see outsized tailwinds for CP's domestic intermodal, crude by rail, and potash businesses which support our view of best-in-class volume growth. CP's discounted valuation does not reflect earnings potential CP currently trades at 17.5x NTM EPS estimates, which is about 3% below its 5- year avg. and nearly 10% below CNI's current multiple. CP's de-rating (both on an absolute and relative basis) has coincided with a 20% decline in merchandise volumes from 2014 to 2017E while CNI's merchandise ATM's are now back in- line with 2014 levels. Given our expectation for CP to generate best-in-class RTM growth over the next several years, we see potential for shares to re-rate higher as improved operating leverage translates to higher earnings growth. Valuation and risks Our $209 price target is based on 17.5x our 2019 EPS estimate, which is supported by our DCF framework (3.75% terminal growth and 7.9% WACC). Downside risks include a sharp decline in commodity prices, lower pricing, NAFTA, and recession. Page 38 Seldon Clarke Associate Analyst • 1-212-250-5969 seldon .clarke(Adb.can NIG," at 30 Oct 2017 IUSDI Price Target 52-week range Puctfprice NAetivu 174.74 209.00 177.61 - 139.33 Aairi viv^1.-ytiwee Performance I%) Absolute TSE Composite Sour.* dunes Bart lm 3m 12m 4.0 10.7 22.2 2A 5.8 8.2 ISt..ck Et optl.qt Market Cap IUSDI 25.418.3 Shares outstanding In)) 145.5 Free float f%l 100 Volume (30 Oct 2017) 73.246 Option volume (txi. snrs., IM avg.) 42.935 Sane DetetteM ere Deutsche Sank Securities Inc. CONFIDENTIAL - PURSUANT TO FED. R. CRIM. P. 6(e) DB-SDNY-0064308 CONFIDENTIAL SDNY_GM_00210492 EFTA01371111