Canadian National Railway Co (CNI) 2005 Q1 法說會逐字稿

Welcome to rainy Toronto. I appreciate those of you who came here in person. Thank you for joining us at the four seasons hotel today. Joining me is Hunter Harrison the President and Chief Executive Officer of CN, Claude Mongeau, Executive Vice President and Chief Financial Officer, Jim Foote, Executive Vice President, Sales and Marketing, and I'm Bob Noorigian, Vice President of Investor Relations.

Today's remarks may contain forward-looking statements within the meaning of the U.S. private securities reform act of 1995 and under applicable legislation. There are number of risks and uncertainties that could cause actual results to differ materially. Also today's presentation may refer to non-GAAP financial measures for purposes of comparability only. Please refer to our website for reconciliations to GAAP. The Q1 2005 financial statements and notes are attached to our press release and are also available on the CN website as is the presentation that we are doing today.

After our presentation, we will take questions from first the people that are in our audience today, and then we will take people from listening- - those that are listening by phone. In order to -- could you please limit your questions to two? And for those of you here or by phone, could you please identify yourself when asking questions. It is my pleasure then today to introduce CN's President and Chief Executive Officer, Hunter Harrison.

Thank you. Thanks, Robert. It is nice to be back here live in Toronto for the first time in some period of time. I would like to particularly welcome you people, the folks who came out in these kind of adverse conditions, and welcome you that have joined us on the website. I trust that you have seen our press release. I am delighted. It is certainly excellent performance. Our team of railroaders back home; they continue to set records quarter after quarter.

Let me just highlight a few things in the quarter that took place, and then we will call on Jim and Claude to talk about some of the operation and performance in a little more detail. I would call your attention that our EPS for the first quarter was - - came in at $1.04. That's a 42% increase over last year. Although I would point out to you and remind that you last year in the first quarter we did experience a 30-day work stoppage from CAW. But if you adjust that 42% increase for the work stoppage as well as currency, it was up 33%, which was also pretty impressive.

Our revenues were up 19% as reported. Up 10% pro forma and up 14% pro forma exchange adjusted. And Jim will talk to you about the makeup of those revenue increases. Record first quarter operating ratio of 69.2, up 3.3% over last year. And when I say a record, I would point out to you that's the first time the organization has been able to break through the 70 barrier in the first quarter with the seasonality effects of winter.

The thing that continues to amaze me and I'm proudest of is the free cash flow performance of $310 million. Claude will give you more detail on the cash flow performance.

A couple other things maybe to emphasize. This really shows the strength and the leverage of this operating model. If you take a look at this, our adjusted revenues were up 14% when expenses were only up 7. We saw consistent productivity improvements across the board. Our trip plan improved 7 to 8%. Over last year. And we had the impact of seasonality. Our car miles were up 7%, our train load factor was up 6%, our gross ton miles per available horsepower which measured our locomotive productivity was up 11%. We had broken through the 300 barrier and we thought that that was probably kind of the ceiling and we proved that is not the ceiling.

On the labor front, a lot was accomplished in the first quarter. We first of all signed a initial - - I should say a tentative agreement with United Transportation Union. We were very optimistic that that agreement will be ratified towards the end of the month. We also initialed an agreement with the IBEW as we got right to the verge of a work stoppage there, we were able to settle that issue. We should hear the results on the IBEW somewhere around the first week in May. We were also able to ratify and sign an agreement with the steelworkers which covers our maintenance employees. I was proudest of that agreement because it was negotiated in effectively in about four days, where as some of the other agreements took 18 months. And another recent break-through is if you will remember, the real break-through on the hourly agreements with our U.S. train and engine employees was with the engineers on the former IC. That agreement now has come up for renewal. And we had the ability, both of us, in that agreement, to revert back to the old agreement if we did not like the new - - according to benefits that we originally thought. Well we were able to renegotiate with the BLE early. An extension of that agreement, and we extended it now for four year, four more years. Early on, I think about five months early, before the exploration of the other agreement, which is kind of unheard of in the industry, and it right now is out for ratification, as we speak.

So a lot accomplished on the labor front. The only thing remaining before us is the teamsters who represent the engineers in Canada, and we will start meetings with them in the second week in May. We have a week scheduled then. And we see no problems there. We're very optimistic about our ability to be able to get that settled.

The last thing I would point out is I was very proud that we were able to lower our FRA, reportable accident ratio. We are now the leading carrier in North America in that category. We were able to improve that about 21 or '2% over last year and that is quite an accomplishment.

Now, let me call on an individual I need to make an announcement about, particularly those of you in the U.S. who maybe not have seen press reports from Canada, you must treat Claude with a great deal more respect because he was announced I guess two weeks ago now, that Claude was named chief financial officer of the year in Canada and we're very proud of Claude for that. So Claude?

Thank you, Hunter. Well, these are great results for the first quarter. And I got to tell you it, it makes it easy to be the Canada CFO of the year, even the CFO of the world with that kind of performance coming out of the railroad.

These results were driven by very strong top line growth. Jim will give you some of the details in a minute but basically our reported revenues were up 19%. If you adjust for exchange, they were up 23%. About a third of that from acquisitions, a third of that from yield, that is fuel surcharge and price, and about a third of that, the last third, from volume and mix. So good balance, led by merchandise and inter modal growth. We also had very solid cost control. We delivered a record operating ratio at 69.2%. That's down 3.3 percentage points from last year. We're very pleased with that kind of performance. It sets the stage for the balance of the year. All of that drove our EPS to $1.04 which is essentially 42% up, and as Hunter said, if you adjust for the strike last year and for the impact of exchange, our EPS is still up by roughly 33%.

Finally, our earnings were backed up by very strong free cash flow, a full $310 million, and that's after dividends. From my perspective, it is very difficult to ask for much better results.

If we turn to expenses for a minute, we see the benefits of solid execution. On a pro forma basis, and adjusting for the benefit of foreign exchange, our expenses were increasing during the quarter by only 7%. Only two key areas saw big increases, fuel and labor and print. Our fuel costs jumped by 29%, with WCI hovering just under $50 on average per barrel during the quarter, and that applied to about 50% of our fuel expense which is on the [wet side] and the other 50% is [edge] as you know. Labor infringe also increased. We saw here the impact of the strike last year when we were not paying for some employee, but also higher stock-based compensation and medical costs, all of this offset by very solid productivity. If you look at the CN head count, that's excluding the two acquisition, our head count is actually down by about 2.5%, and our labor products, GDM per employee on a same store basis is up nearly 8%. Very strong labor productivity.

We also made very strong progress on a number of other core productivity drivers. As Hunter mentioned locomotive utilization was a shining star up 11%, yard through-put up 7% , car velocity up 6%. That kind of performance in those four metrics is what explains our ability to bring it to the bottom line. We were able to accommodate the revenue growth on an incremental basis during the quarter at a 51% operating ratio.

If you look at the cash flow, very strong performance. 310 million versus 272 last year. Excluding the EWS recap which is a bit of a one-time, our free cash flow is up by actually 179 million. Driven by improved profitability but also the cash tax savings coming from the BC rail transaction. We used this strong cash generation to pay for a higher dividend but also to buy back share. We bought another 4.6 million shares during the quarter. Since November, on a cumulative basis, we repurchased 8.6 million shares for $620 million.

At the same time, we're maintaining a very strong balance sheet. Our book/debt ratio is back to 36%. During the quarter, we renewed our revolving credit facility $1 billion for five years on very good terms. And we were pleased yesterday that Moody's actually came out and announced a positive outlook on our BAA-1 rating, they went positive in terms of their outlook. So very strong cash flow and very good balance sheet. It gives us flexibility for the future.

Let me say just a few words to wrap up. A few words about our outlook. It is clear we're coming out of the gate with a very strong - - fairly strong performance in the first quarter. We delivered very solid performance, actually, I have to say we exceeded even our own expectation by a dip. We're mindful of the risks of a slow down, whether it is housing starts or auto, but we see good prospects for growth, pretty much across many of our commodity groups and at least for the next few quarters. Our network is fluid. And we have the capacity to grow at low cost. So all in all, it bodes well for continued earnings and cash flow [immensely]. We expect a solid second quarter. With a slow down in our pace of growth coming more towards Q3 and Q4, when we will be lapping the BC rail and GLT acquisitions. So it is still early game, but if the economy continues to roll, and if the stars stay aligned, we could very well see 2005 free cash flow reach $1 billion and our EPS could come in above the 15% guidance which we've given you last fall. Which is good news. Jim, over to you.

Thank you, Claude. Thank everyone for coming out today. Very good quarter. As a result of the railroad running very good, providing very good customer service, and a good economy, the pro forma exchange adjusted revenues up 14%, breaking that apart a little bit, volume accountable for 4% of that growth, price accountable for 3% of that growth, and positive mix accounting for 2% of that growth. Solid fundamental 9% growth. The balance of the growth coming from the fuel surcharge. Breaking that apart by the various segments, across the board strength in merchandise up 12%, both up 12% and internodal being up 27%.

Let's try and take that apart down in a little greater detail by the various business groups - - petroleum and chemicals up 9%, pretty much across the board strength with our customer base in both petroleum and chemicals. In metals and minerals we see a 22% growth. Growth and strength at both ends of the spectrum there with scrap and ore being very strong, and finished products - - sheet steel, pipe, bar, all of those commodities being very strong again at the end of the second - - in the first quarter. Forest product continues to be very, very good. 14% here led again by 20% growth in lumber and 20% growth in panels. We continue to add capacity, bringing on more center beams throughout the period. We need this growth. This continued demand driven principally by the strong housing market in the United States. Pulp very strong again. 11% in the quarter. And paper up 8%. The only area where we saw some decline was in the auto sector. Strong import volume and very strong volumes out of the new Nissan plant down in Canton, Mississippi, were offset to a degree by some declines in the major producers in the U.S. and Canada.

On the bulk side of the business, quite a turn-around here from the story that I've been telling for the last few years. As we look at our coal business, being up 17%, the Canadian coal; principally the metallurgical coal, which had gradually gone away year after year, has made quite a turn-around now, up 50%, although off a much smaller base than we had in the past but a 50% growth as three new mines have come on in Canada. U.S. coal continues to be strong as well, both Powder River Basin and Illinois coal, driving U.S. volumes and revenues up 10%. The grain, up 10% in total. Canadian up - - grain up 1%. With good wheat shipments offset somewhat by lower feed grains. U.S. grain up 24%, both strong feed grains up 17% and very strong export soybeans up 25%. And fertilizers, principally fertilizers in Canada, up 17%. Overall, a very good, strong outlook for our bulk segments.

And internodal up 27%. Now, if we adjust that for the strike that growth was in the 10% range, but still with our IMX model which focuses on gradual profitable growth, we've seen that business rebound. Good strong volumes in import, export traffic off the West Coast. New customers off the West Coast. And on the domestic side, really a broad-based growth across our entire customer base.

The outlook, the strength of our franchise, merchandise business across the segments is very, very solid. Our service package, our focus on doing for our customers what we say we're going to do, is providing good quality returns for us there. internodal profitability, the IMX model - - the IMX model was not designed to cap out our growth, but to grow that volume on a profitable basis. We have improved the profitability there and we are seeing that that business segment continue to show good opportunity. Again, mostly driven by the exports, the import/export vol - - specifically through the West Coast. Metallurgical coal, as I said, three new mines online, three new mines in development. The opportunities there continue to be impressive. And the solid gains in yields. Our strategy there continues to be one of asking for a fair price for delivering a good quality product. This 3% range we think is a consistent pricing level and something we're looking forward to in the future. Thank you.

Thanks, Jim. And Claude. Let me mention a few other things that are in the pipeline going forward to continue the kind of performance that we've talked about in the first quarter. Some pretty exciting things. One is carload excellence. A group that Jim and J.J. Ruest have put together, who are really taken the principles of some of the learning experiences we gained from IMX and applying those to our carload business. They're just scratching the surface but making some real break-throughs.

Probably the biggest achievement overall that we're starting to really see the benefits of is the industry partnership with our so-called routing protocols. We've now signed agreements with all the class ones in North America, all of those agreements have been implemented, with a little exception with the Norfolk Southern, it will be fully implemented within the next - - within the next 30 days. And we are really starting to see some benefits that is bringing to the consistency of the operation.

The smart yard, smart network is a project that takes some of the principles of geometric switching, and some other learning experience from some of our people, and applying them to our major classification yards, both up and flat, and in fact, the [tiling] project is under way here in Toronto with Macyard. We think that has the possibility to significantly lower our costs in our terminals, which are probably our largest cost center.

And the last issue that I would mention before we take questions is Prince Rupert. We're very excited about Prince Rupert. You have seen, I'm sure, a recent announcement in the Canadian press about the participation of various government entities, both from Ottawa to BC and our increased participation, and I think that will all come together and hopefully within the next two to three weeks we will see an announcement, and the key is having that all put together where the cranes can be ordered, and that's kind of the issue there. Once the cranes are put on order, we are probably 18 to 24 months away from operation, and we're pretty excited about the prospects that Prince Rupert brings to us given all the growth forecasts that you see, and all of the problems with the West Coast port, with congestion and so we think Prince Rupert is growing already for us, there was a lot more grain handled at Prince Rupert this year than has been handled in the past, so we're pretty excited about those opportunities.

So, overall a bang up quarter. We're looking for a great year, as Claude has described to you. And, we would be glad to address questions you might have.

Thank you. [Operator Instructions] Mr. Harrison, please go ahead.

Thank you.

Two questions. First of all, Jim, when we look at your yield improvement on either metric, either the RTM basis or the carload basis, it was a pretty good quarter. Can you give us some idea on a couple of things? First of all, when we look at the break down between fuel surcharges and actual rate increases, and when you look at those rate increases and you look across some of the commodity groups, is there any tie to commodity prices like we've seen with some of the other rails as to how those freight rates are moving?

No, we do not have any contracts that are tied to the price of commodities. Obviously, the financial condition and environment in which we're doing business is different within the various segments but overall that steady kind of 3% range price increase is applicable across the various business segments universally, with the exception of, you know, one year that needs to come up a little bit more than average and maybe one that is already up at a rate where it doesn't need to get that average price. But it is pretty consistent across the Company.

So in other words when you're looking at your rate increases, you're looking - - is it a very tight range around 3% that you're getting rate increases or is the range much wider than that?

Three would be the average. Some are lower, some are higher.

Much higher or much lower?

Depends on the individual customers.

Okay. Under the question on Prince Rupert, are you starting to see some leverage off that port now given the congestion of some of the other ports - - you mentioned grain but are you seeing any potential for some of the other commodities in advance of sort of the internodal side of that ramping up - - Prince Rupert?

I don't think so unless Jim knows something that I don't. We have seen, as I said, with congestion on the West Coast, for an example, we've seen more grain move to Prince Rupert this year than I've seen since I've been with the organization since '98. I believe some of that comes with just the talk of Prince Rupert. It is a very efficient rail. We've got a lot of capacity there. We've got a lot of protected employees that are furloughed that are under the arrangement that I talked to you in the past that are sitting home and being [paid]- - so there is a lot of opportunity.

I do think Jim and his group is working very hard to start some back haul initiatives to say when we get all this import business, what is going to go back? And I think there is a lot of conversations now, not a lot of traffic moving, about the opportunities to move stuff - - export, going west. Jim, do you want to add to that?

Obviously, coal, as the lines develop, that's certainly an exit for the coal, and as Hunter said certainly the lumber, the grain product, all these people that are currently looking to containerize their traffic for export, the Rupert has an opportunity. On the import side, we have had a steam ship customers ask us if they had a crane on their vessel and they drop containers off, can we move them for them. So there is certainly interest on that side.

Randy cousins from BMO Nesbitt Burns. I'm wondering if you could guys could address the capacity in and out of Vancouver. Obviously it is a destination of choice for a lot of shippers. It is a destination exit point for a lot of product. There is constraints on one of the railroads. What opportunity do you have to grow your volumes in that particular lane from going from say western Canada into Vancouver and vice versa? And do you have opportunities to shift volume from Vancouver to other places to free up capacity? How much growth can you actually put into the Vancouver market?

From a line capacity standpoint getting to Vancouver, we have no problems whatsoever. We do have some problems once we get to Vancouver. We are limited in Delta port on footage of just what Delta port can handle. I can't give you more of the details but that certainly limits our ability, Delta force being the largest facility in Vancouver, that limits our growth opportunities at Vancouver.

Now, I would hasten to add that, I think you just saw an announcement the last week or ten days, where we have done some work with our partner there, TSI, to create some more efficiencies and to create some more opportunities for Delta port, but the limitations at Vancouver are basically related to the port. And those facilities that - - and we're only as good as the capacity they can provide. So yes, there is some limitations there.

[Inaudible - microphone inaccessible]

Ted Larkin from Orion Securities. Back to the Prince Rupert port authority, Hunter, I'm just wondering when you talk to the people at the Prince Rupert port authority, they're extremely excited about the future volume potentials. In internodal business. And the talk out there right now is about $100 million annualized in revenues perhaps in the first year of operation. Can you give us idea whether that's just scratching the service and what potential level could be in terms of revenues? Because the folks in Prince Rupert are extremely excited about taking food out of the mouths of the port down in Long Beach.

Well, let me make a couple of comments. Number one, if the growth happens to what is being forecast, there is going to be plenty of for everybody. There is going to more than the other ports can handle and enough that will fill up all the capacity of Prince Rupert if those forecasts are right.

I think that the $100 million number, I think that, you know, there is a lot we're learning about this, but I think after the - - we go through the startup period, that maybe the first full year that that is a reasonable number we think, and maybe two or three years in, if we go to Phase II, that to grow to 300, 350 a million, is certainly doable. So we're probably as excited as the people at Prince Rupert are about the potential.

Then just a follow-up question for Jim, on the coal, you mentioned three new mines. Can you give us some details where those are located on your system? Or the names, I'm sorry, the coal companies specifically?

The mines would be Burt River, Grand Cash, and Pine Valley, were the three new - - or existing mines that I was talking about.

Fadish Hamoon from UBS. Question for Jim. On the Portage product, I think is probably one of the biggest risk areas in the outflow if housing market begins to show some weakness, can you talk a little bit about the dynamics [inaudible] in terms of volume, and if there is an opportunity for CN in a different part of the franchise to build on market share gains from the trucking, given the pricing environment that we're in?

First, I think that the - - that especially the lumber and panel business, the outlook for that on our franchise is very good. Especially now with some restrictions on timber harvesting in Eastern Canada, that has a tendency to move the capacity expansions to the West, which is good, extremely, extremely good long haul business for us. We had just last week record center-beam loadings. And still are not meeting the demand. And the demand is being absorbed by truck. There is still lumber being trucked from British Columbia, as far south as Texas. And which should and could move on the rail. So there is still opportunity there for us. And we, as I said in my remarks, continue to add capacity. We continue to generate capacity, as we improve the car cycles. So I am still very optimistic and bullish on that segment of the Company this year and into the next few years .

Joe Leinwand, RBC. Jim, can I just have some clarification? Your revenue per revenue [ton] mile was up 9% I believe, I think you sort of gave an indication that maybe 2% of that was mix, 2% yield and would the rest be fuel surcharges?

Yes. 1% volume., 3% price, and 2% mix. And the remainder fuel surcharge getting us to 14.

Thank you.

Which I think is 9 and 5.

Okay. We will now go to the phone lines, please.

Thank you. The first question is from Scott Flower from Smith Barney Citigroup. Please go ahead.

Yes, good afternoon. I was wondering if, Hunter, if you could give us perhaps a little more color commentary on where you are in the process of integrating BC rail and GLT. I mean GLT I assume is much simpler and further along, but could you give us some color on what are the next steps there? Is it more moving to the marketing side of the house and creating longer hauls and working the marketing side? Or give us some color if you would on the integration.

Well, Scott, you're right. The GLT and the DM&R was relatively simple that's been done, but there's still some opportunity there but didn't present near the opportunity of BC Rail. I guess we're kind of going through Phase II now of the learning experience from what we might not have gotten exactly right in the operating plan initially and I was personally involved just two weeks ago in kind of revising the operating plan, on BC Rail. We clearly had some seasonality issues with some pretty tough weather, in British Columbia in the first quarter, which put the pressure on car supply and some other areas. We have gone back to distributive power on the BC Rail. They had stopped using distributive power and we're running smaller trains limited to, I think, 5 or 6,000 tons. We have quickly upgraded the locomotive. And we're now running trains down the BC Rail side where we have 2.2% grades, which are pretty challenging from an operating standpoint. We're running trains as large as 15 and 16,000 tons.

We also have revised the blocking plans. We're coming off BC Rail with three trains a day that were given to Burlington Northern. Now let me hasten to add something. We give to Burlington Northern, all of the traffic -- -- some of the traffic that Burlington Northern hauls to union Pacific. So the business going in the I-5 corridor in the Western U.S. that goes to UB and BN. So we blocked those trains, we blocked them in Prince George, we blocked them in Edmonton, and we run through Vancouver.

We have also put in new operating plan in Vancouver between North Vancouver and our operation in Thornton, and so the efficiencies and the productivity on the BC Rail has improved probably in the 25 or 30% range, just in the last six weeks. So it is even going better than we had initially thought if that's enough color, Scott.

Yes, thank you.

I could add, Scott, if I may, that we're also - - during the quarter, we cut over our [SAP] system on GLT, which opens the door for the GMA savings to take place, actually we are about to empty out the Monroeville building, so that's pretty much done on the GLT. And just a week ago, we cut over both SRS and SAP on BC Rail, which means that we will be in a position here in the next few weeks to also finalize all of the GM savings, so we're ahead of the curves in terms of synergies on both of those.

Okay. And the other question if I could was for Jim. Two small questions. One would be - - do you have what the volumes would be from the acquisitions? In other words, the handout gives us some sense of what the pro forma revenues were. I'm just trying to get a sense of what the volumes contributed to the overall volume growth for CN, just to get some handicapping on the size of the two acquisitions.

And then is 10% a reasonable range to be thinking about your internodal growth normal or was that higher than you expected? I know that you gave us some sense of the adjustment for the strike last year, but obviously, I'm just wondering is 10%, you think, a reasonable level or do you think under IMX it is going to be a lower growth rate than that for internodal?

First question, our pro forma volumes carloads were 4%. The difference there is - -

Okay, but what I'm curious about is what incrementally on top of - - okay, so the Delta to whatever you printed on volumes less 4% is GLT and BCR?

The volume growth quarter-over-quarter on those two entities was about flat. And BC Rail was down to a degree and GLT was up.

Okay.

On a pro forma basis. And overall the - - it is reported that GLT and BC Rail gave us 8% revenue growth. And 10% in the first quarter is probably slightly higher on a run rate than what I would expect to see, you know, the guidance that we have given is kind of, you know, in the 6 to 8% range, and I think that is - - that is probably something that I would prefer to stick with for now until we see more how the full rush is going to be through the West Coast later in the year.

Okay. Great. Thank you.

Thank you. The following question is from James David from Scotia Capital. Please go ahead.

Thank you. Good afternoon all.

Hi, James.

Hi. First question, just given the really solid pricing on the internodal side, I'm curious - - and you know, taking into consideration there is probably some congestion costs, even if they're not directly attributable to your system. Where are your returns right now in that business? And have they come to a point now relative to the comments that were made a couple of years ago, that you feel more comfortable making investment in that business?

Yeah, let me make a comment and then Jim can - - they are where we can reinvest. They are certainly now, have moved beyond the returns beyond our cost of capital, which was one of the hurdles that we kind of set for ourselves. They have improved, if you remember what we talked about I guess over the 18 months or two years we've been into IMX, they have improved in the range of 40%. I don't think that is the end. I still think we see an opportunity for - - I probably see one thing and Jim sees something else but probably conservatively they can grow another 5 to 10%. And we certainly are comfortable, that side of the business has moved up from the bottom of the rung as far as quality of revenue and it is right at the middle of the pack moving up and creating quite some internal competition. Jim, do you want to add to that?

Right on. Right in the middle of the pack and would certainly invest to grow the business.

Okay. Thank you. Second question, Hunter, last year, at the conference, I think there was talk about, you know, you had your sort of regular CapEx schedule and then you had, if I remember correctly, sort of a discretionary amount in the area of $250 million per annum over the forecast horizon, I think as you had, you know, fairly significant cash flow, free cash flow. Was this announcement on the fuel efficient locomotives - - does that sort of fall into that somewhat discretionary category? I mean is this really more investment for cost? And moreover, are there other sort of similar type of technologies you might take advantage of in this - - if I can refer to it as a discretionary amount of spending?

I think it is a little bit of both. You know, Claude convinced me this is the thing to do. I was not initially on that page. When you invest in locomotive, the worst thing you can do is buy them early because you know you are going to have to have them some day.

Second, we were pretty conservative in that just the savings, just the flat operating savings on maintenance and fuel efficiency was pretty compelling. Of the first - - and right now, we've only committed to 75 locomotives, and we will see what growth does and what the economy does. I think those 75 in the plan, will replace 100 locomotives, and at the same time, it kind of hedges our position as far as what is going to be in the future as far as - - as far as growth. I'm a little concerned going forward. I'm not an economist and you all know much more about it than I do, but I just don't think these economies can keep rolling like this with fuel prices the way they are. I think there is a point where it is going to have an effect.

So we got to hedge our bet a little bit. And some of that was in the plan, the longer range plan for the locomotives. Probably the second batch that we have options on would fall more in that discretionary side and most of that discretionary side that Claude described at that time was on rolling stock as far as plate equipment. It was box cars for pulp. It was addition center-beams which I don't think at this point, I feel comfortable at this point, unless we see more growth. We probably won't use all of that amount that we described. Unless some of the returns are much more compelling.

Okay. Very helpful, thank you.

Thank you. The following question is from Jordan Alliger from Deutsche Bank. Please go ahead.

Yes, hi. Just a quick question. Can you give a little more thought on the carload program and where you are in terming of moving that along, and when we could start to see some of the effect kick in?

Yeah, I think - - there is a - - I will let Jim add to this, but one of the first things would very done is started to look at for example at [Pool] where we had customer assigned [Pool] for an example and any time you saw those customers assigned [pools] or specific [pools] for specific areas, you saw - - you saw that those fleets did not measure up from a productivity standpoint as well as the generic fleet. So we have moved, and there are exceptions to all rules, we have moved away from assignments and specific customer [pools]. They are imposing more discipline. For an example, with our I diverged systems and our SS [Oreo] charges. Things that encourage assets to move. They are starting to explore and looking at business from a profitability standpoint, by train, rather than cars, over certain line thickness, and so today, we have a lot of people selling a lot of different products that all go on one train in the same market from A to B.

Now, unbeknownst to one, another one is hitting a homerun out there. And the worst nightmare in the world in the rail industry is to have a train plus one car. You know, when you start to hit up against capacity, and 80, 90% of the capacity of the train or 95% , the first reaction should be as other industries would do it is raise price, and see how solid the market is. And then when you make the commitment that you're going to put on that second train, then you got to do something to promote, sell, advertise, do whatever you can, and so they're starting to look at trains and cars by profitability rather than individual car types. They're doing a lot of exciting things. That's just to mention a few. Jim you want to add anything?

Still, the biggest opportunity as we have talked is trying to get more and more traffic to shift to the weekends and the carload business, which is what we did in IMX. You know, IMX, the value improvement in profitability that Hunter spoke of earlier was driven principally by driving the traffic to the weekend and smoothing it out. And taking that logic and applying it to the carload business offers great potential, and we have just begun to start looking at that.

One of the real powers - - something that we are driven by in this scheduled precision railroading concept is about balance. There is nothing like balance. From an asset utilization. From human resources and from all that leverage. And so they're also, as Jim said, driving whatever they need to do in the market to drive balance.

Thank you very much.

Yes, sir.

Thank you. The following question is from Ken Hoexter from Merrill Lynch. Please go ahead.

Great. Good afternoon, Hunter.

Hi, Ken.

Just before, I had a question on the alliances and ongoing benefits but I just actually want to bump back to your last answer when you talked about the economy concerning you a little bit going forward. I guess maybe throw this one at Jim,, too but what are you seeing right now as far as obviously we're seeing the market belief that everything is swelling dramatically right now, what are you seeing kind of change in your order flow or discussions with customers? Let's start with that one.

Well, I mean Jim is closer to it than I, but I can tell you - - everything we see right now as we speak is huge demand. I mean just about across the board with I guess with the exception of the automobile sector. There is huge demand. There is all kind of positive indications that things are strong. But it is hard for me to understand, with the fuel prices the way they are, how that is not going to start putting some pressure, if there is not something done about this, and inflation issues and interest rates and all those other dynamics, so I'm a little cautious, not next quarter, or not this year, but looking out forward, that we don't get too carried away, that this is always going to remain as robust as it is today. Jim?

Very strong and our customers continue to reinvest in their plants, and continue to bring on additional capacity, whether it be in the pulp business, the paper business, the lumber business, the chemical business, new coal mines across the board, and even in the auto sector, although maybe by a new entrance into the market, there continues to be strong reinvestment in building up capacity, so we don't see any kind of outlook right now that would change that absent some sort of global event.

Great.

I think the one thing that makes me feel more comfortable in the position we're in is I think we will continue to see - - I'm convinced, market share gain vis-a-vis the competition of the trucks. So I think as we've seen maybe some softening, other people have indicated maybe in lumber, we have not seen that, because we have had such tremendous market share gains, particularly in the West and British Columbia, and shifts there, so I feel better about that, but the overall economy, I just get nervous about, as you look out in the future.

So you're not seeing an increase in the - - on the trucking side, an overcapacity starting to rumble around so - -

No, no, no that's a non-event.

All right.

That's a nonevent. I don't see it ever having an effect on us.

Good. Let me come to my original question on the alliances if I may is. There any way to quantify - - it seems like we're just touching the start of this, quantify the cost, the productivity gains, kind of some CapEx gains that you can take away from this, and you posted, you know, tremendous as you started the call with the locomotive productivity and such, is that something that the alliances just can continue at, you know, a 5% annual rate, 10%? What kind of productivity can you continue to squeak out of that?

Ken, Claude doesn't want me to say, okay? [Laughter] I've said it several different ways, to put some order of magnitude it, I've talking about the operating ratio or whatever, and it is hard to quantify it. But I would remind you of this. Didn't many people believe 72, and didn't many people believe 68 and didn't many people believe 65, and that's where we've been. There is huge opportunity for this Company in routing protocol.

Now, I don't know what the others say about it. They've done the deals with us. That's what I'm concerned about. We have the opportunity, for an example, in the routing protocol, as we speak, which will be accomplished in the next six weeks, to close two significant gateways that are extremely, extremely high cost. We close those gateways, we improve the service, okay? We lower the cost, we improve asset turns, and we give better service to the customer. That's powerful. People have not thought about this, have not experienced this, and it is hard for them to reflect on what the value it can create. But, you know, as we look at these various initiatives going forward, do I think that next year we will be standing before you talking about the same kind of raw productivity gains that Claude described today? Absolutely. It is hard for me to give you the mix and the makeup of which is going to do what, but the routing protocol is very, very important to us going forward.

Very helpful. Thank you.

Ken, just to show you I'm a believer with Hunter, as we bring in more traffic into fewer corridors, we add density that allows us to do more smarter blocking plans; he gave an example off of the BC Rail, but it links up with the smart yard initiative, we can see our way doing deeper blocking at origination, saving cost, transit time, but these times take time to take place but they can deliver a lost benefits over time.

Great. Thanks a lot.

Thank you. The next question is from Jim Valentine from Morgan Stanley. Please go ahead.

Great. Thanks. First, Claude, congratulations on CFO of Canada. First, if you can make help me understand on the labor cost, this 14% increase on a per person basis, that I guess, it would have been higher without the weak U.S. dollar, and you categorized some of it as CAW strike and also incentive comp. Could you either break it down a little bit more for us? Or at least give us feel for what you think that run rate will be going forward? In terms of labor costs per person?

The first quarter was a bit of an anomaly for a couple of reasons, which I had mentioned. You know, the big one is indeed the strike last year. We had 5,000 people who were not working for basically months. So we had other costs offsetting that in purchase service, in the first quarter of 2004. But basically, if you look at it, our labor expense during the first quarter was up by - - on the order - - a little bit more than 15 million, just because of the strike. Then we also had higher stock-based compensation. We - - mark-to-market but we also changed our assumptions on the forfeiture rate for some of the stock grants we had and that also created an increase in our labor costs which was a bit of a one time catch up.

Would that have been $15 million? Or - -

I think it was a little bit less than that but that order of magnitude. 10 to $15 million. The rest is the normal wage inflation and the fact that we folded in the two acquisitions. Going forward, we have been able to contain our labor costs quite well. If you look at it, our position in terms of efficiency, we keep taking our head count on the order of 2, 2.5% down on a CN same store basis. That helps us offset wage inflation from the normal wage increase, but we are faced with wage increases. We are faced with medical cost increase. And at the end of the day you should expect our labor, our costs for labor to continue to inch up in the 3 to 4% range going forward.

Per person. Okay. Great. If I can switch gears here to Jim, Jim, when you think of all the revenue that you have, and I know on the CN, especially out West, you have a lot of long haul business that is not really truck competitive but when you think about some of the shorter haul moves in the East or even in the U.S. and you think of all your revenue, what portion do you think is truck competitive to the extent that when a sales person sit downs with the customer, they're thinking about, hey, this customer might decide to go truck instead of rail? Is that 20%?

No, I think all of the merchandise business, the truck is still to a degree an option. As I said, you know, talking about lumber, there's still lumber that is moving out of British Columbia to Texas. There is still newsprint moving out of Quebec to Florida. You know, while it is still a competitive option to the customer out there, it is also what's driving the opportunities and creating the growth for us. That's where our growth is coming from. Our growth is coming from modal shift from trucks to rail, and there's still a significant amount of opportunity for us out there, and that's what we're after.

But just let's just say hypothetically that the truckload industry winds up with excess capacity. I mean we've got close to record level type orders on new trucks right now on the books, you know, would it be realistic to assume that some portion of your business is going to have a tough time pushing through the rate increase we've seen now and even recently over the last year let's say, I don't want to pick a date, let's say we do - - we don't have as tight of a market as we do right now in the truckload market. Is it conceivable you are not going to go past that 3% increase?

Number one, I think the trucks coming on, yes the trucks are coming on but they're mostly replacements; they're not adding to capacity. And secondly, we still have a cost advantage vis-a-vis the truck. And as we continue to improve, we continue to find out what the - - what the barrier to entry into that additional market share is, whether it be equipment, whether it be technology, whether it just be a faster transit, et cetera, we will continue to grow our business at the expense of truck. That opportunity is still there.

So you're saying basically that to the extent that there would be any weakness in truck pricing, that you would more than offset that by just the organic trend you've seen over the past few years due to all your internal initiatives?

Correct. And we were growing the market share and we were getting price increase long before this recent capacity issue came along.

Right. Okay. Great. Thanks, guys. Great quarter.

Thank you, Jim.

Thank you. The following question is from Tom Wadewitz from Bear Stearns. Please go ahead.

Yeah, good afternoon. I've got I guess two different questions here. Hunter we've had some questions on weakness, but I'm wondering what if the strength in your volumes continues, and you look at the capacity of your network, can you point out some areas where there might - - you know, might be tightness, whether it is, you know, perhaps not track, but if there are terminal areas, and where, if you look out the next couple of years, you think you might need to invest to expand that capacity?

Tom, it is hard for me to visualize an area that we're going to be to capacity constrained. Now, you know, I've said this before and I will say it again. The thing that concerns me from time to time is Chicago. And that the Chicago infrastructure that we don't control. And are we thinking about addressing that in different ways? Absolutely. That's all I can say about that at this point. But I would add to you that we've got terminals on this railroad that have been closed down. That if we needed to open terminals back up to add capacity to the railroads, to get over other problems that - - in larger terminal, we've got them and we've got Centralia closed down and we've got Battle Creek closed down, we downsized Flat Rock, and we flattened the hump in Montreal.

We have line capacity. We have train capacity. We have people. We have locomotives. And we have cars. And it is hard for people to understand that given the issue that the other rails have. Capacity is not going to be a challenge for us.

Now, we are continuing, for an example, our program of siding extension. That is not for capacity. That is for productivity, to be able to run bigger, larger trains so we can continue to raise our train size up. We will probably continue to add to the infrastructure for raw speed, because in the U.S. particularly with our new labor agreement, and we're learning quickly, that speed and velocity really pays you back in significantly lower labor costs. And if - - and I'm hopeful, that we reach a date where we have that same type of operating agreement in Canada, speed will be important then. And so then speed will be even more important than it is today, from a labor cost standpoint, as well as asset turns and service to the customer and those types of things. So, you know, we will be improving the infrastructure. But capacity is not something that we have issues with.

Okay. Great, fair enough. Maybe one for Jim, on the pricing side, you isolated the same store price about, 3% up in first quarter. Can you just help us recall what that number was in 2004, and is that just a number we should really think about ongoing? Or if demand remains solid, can that number get a bit stronger? Can you see a quarter where have you 4, 5% price year-over-year?

My recollection is, and Bob will correct me if I'm wrong, that we will finish the year last year at about 3%. We had gone into last year trying to - - or thinking of a price range, price increases in the range of 1 or 2 to 3. And we were able to achieve 3. And this year, our expectation was again probably in the same range, maybe higher, 3 to 4. But I wouldn't expect anything out of that range right now, especially with the fuel surcharge being where it is today.

Okay. Great. Thanks. And good quarter.

Thanks, Tom.

Thank you, the next question is from David Newman from National Bank Financial. Please go ahead.

Good afternoon, gentlemen. Great quarter. Again, getting kind of used to these. Just in terms of the BC Rail, we're looking at the operating ratio, it was around 79% in Q1 versus 63% in Q4. I assume that's some of the issues you face in the quarter?

We don't break out our operating ratio by businesses that way, and I actually don't remember what the BC Rail operating ratio would have been, but generally speaking, we're making good progress on both the GLT and the BC Rail, and I don't see them coming up from fourth quarter to the first.

Okay. And in terms of your - - the Rupert initiative, and BC Rail, I mean is the BC Rail infrastructure what you thought it might be? And do you think there might be some CapEx investment that needs to be done in the network there? Or additionally, with the Rupert is there going to be incremental CapEx over and above what we're expecting?

It will be - - it'd probably be a little bit - - it will be very, very modest.

Okay. Okay. Very good. And in terms of your - - the ordering of your free cash flows, obviously this is a great quarter for the free cash flows. Any - - what is the call on your cash flows? Is there any reordering at all, especially if we - - if there is a slow down whatsoever?

Actually, we've been trying to have a very consistent approach here. Our dividend continues to increase faster than our earnings. And so you're seeing the benefit of the 28% increase coming in for the first quarter, with a dividend of $0.25 cents. And we have been buying back our shares, as I said, you know, up to now, we've got almost 60% of our program completed, we've repurchased $620 million of shares since November, and we're continuing to use our cash flow to complete that share buyback program until it is done.

Very good. And last question from me, guys, in terms of the cycle itself, do you see perhaps a softer landing given the congestion that we're facing in North America? Some of the fuel being where it is, that the truckers maybe don't have as much of an advantage that might extend the cycle, let's say into '07. I know that is looking into a crystal ball, but - -

From a seeing standpoint ?

Yes, I mean just for the rails in general and for CN in particular. Obviously you have huge infrastructure structures on the coast, you know, the congestion, the improvement in service that you guys have had, the fuel which obviously puts truckers at a disadvantage, do you think the cycle could be extended here, or if there is a downturn, that it could be a softer landing than people are anticipating?

Well, look, I don't want to comment on other rails. I think we're a lot different than other rails in spite of the fact that to some degree the market doesn't recognize that. We do a lot of things differently. We're not part of national negotiations. And let me speak to CN. I am very comfortable in spite of if there is a downward cycle in the economy, that from our standpoint, it will be a soft landing and all the initiatives we talked about will serve us well. I mean we're cognizant that things are not always going to be running on the upside.

We have always produced a strong bottom line in spite of sometimes some softness on the toop line and battling through the droughts and those type things. So that doesn't bother me at all. I am convinced that this organization has learned how to produce bottom line results, both in good times and bad times.

Excellent. Thanks, guys.

Thank you. The following question is from Bill MacKenzie from TD Securities. Please go ahead.

Good afternoon. Just first question, relates to the GLT and, Claude, I thought I remember you suggesting in the past that - - obviously there is some seasonality to that business, and it might have been a drag in Q1, as a result of that seasonality. Was that in fact the case? Or maybe you can just give us some color on how that performed and how the seasonality impacted it.

Actually, that is a very good point you're raising, that when I made my earlier comment I was talking about the rail side of the equation. During the winter, the lakes freeze over, and so indeed, we have ships and we have costs in the layover to maintain those ships and we have no revenue, so there is a fair bit of seasonality for GLT during the first quarter, they actually turn in a small loss, and then, you know, in the back end of the year, they go gangbuster, as far as the ship business is concerned, so there is an element of seasonality for that reason.

Okay. Great. That's it. Thanks very much.

Thank you. The next question is from Jacqueline Boland from CIBC World Markets. Please go ahead.

Hi, thanks. Can you let us know what the buyback was in terms of dollars for the quarter?

I don't remember the exact number. It was 4.6 million shares and you will get that in our MD&A when it comes out, but basically I think it's close to 300 million. So, yes, 347 million. Some analysts here know the numbers. [Laughter]

Former CFO of the year. [Laughter]

Okay. On the market share gains that you're talking about, you've got a volume increase of 4%. Can you talk about how much of that you believe you saw from trucking and how much you expect to see.

How much of the 4% came from truck? You know, it is difficult to quantify. But I think I am safe in - - because a lot of it was in the increases in year-over-year volumes in potash, year-over-year volumes in coal, et cetera, but I think it is safe for me to say that none of the growth came from me going and taking business away from another railroad. If it didn't come through organic growth, or increased output from a customer, it came off the highway.

Okay. Thanks. And Prince Rupert, the timing with some of these government announcement, et cetera, can you just talk about the timing for you guys?

Yes we've said - - I mean I think we will have an announcement that will kind of solidify this whole package within the next hopefully 30 days, and that would then allow the - - our terminal operator partner to order the cranes which is the longest lead time, which is somewhere between 18 and 24 month, as I understand it, to get the crane, and so say, let's say, within two years we ought to be up and running at Rupert.

Great. Thank you very much.

Yes.

The last question is from Gregory Burns from J.P. Morgan. Please go ahead.

Hi, guys. Just a couple of questions for Jim. On the auto, it sounds like it is more share gain than necessarily weakness, but I'm curious, is there risk if auto weakens that it starts to impact some of the inputs into that business? I'm thinking chemicals perhaps. Have you seen any of that? And is there overlap where you have commodities not classified as auto but that may be tied to auto production.

Well, in our numbers we would - -what is in the auto number is finished vehicle parts. So you know, the sheet steel and the plastics, et cetera, are in the various other commodity groups. To date, we have not seen any kind of decline in those commodities associated with somewhat of a downturn in domestic auto production.

Okay. And it sounds - - I don't want to misquote you but I mean it sounds like from what I heard is you feel it is essentially a share shift with some plants losing and some winning is, that fair?

Absolutely. Some of our - - some of the plants that we serve are going gangbusters and working overtime, because they have a product that is filling extremely well, and some of them are down to one shift, where they used to run 24 hour, so yes, there is a lot on the domestic production, there is a lot of puts and takes in that area.

And on the internodal, you're really growing that nicely, I know you had an easy comp as were you getting rid of some business, and I know no one has got a crystal ball, if we said the industry growth rate for internodal was 6%, would you hope to grow at that rate or above that rate? You know, I think the industry growth rate is kind of, you know, slightly in excess of two times GDP. The West Coast is kind of 15 and the East Coast is kind of 3 and it is all over the place, and I will grow, you know - - I'm not tied to - - I'm not tied to the industry. I've got a completely different franchise right now than the industry does.

Everybody is talking about capacity issues. I've got Hallifax on the East Coast with unbelievable available capacity. I've got the Gulf Coast at New Orleans and Mobile ports coming online. The West Coast, you know, I'm open for business, and if the business comes along, we are going to grow higher than the average. It something happens to turn some profitability questionable, we will grow lower than the average. Great. Thanks a lot.

Thanks so much for joining us. If you will excuse us, we are going to put on our black ties and go celebrate the Chief Financial Officer of the year here.

And the next Pope. [Laughter]