Canadian National Railway Co (CNI) 2006 Q4 法說會逐字稿

Welcome to the CN fourth-quarter 2006 financial results conference call. I would now like to turn the meeting over to Mr. Robert Noorigian, VP, Investor Relations. Ladies and gentlemen, Mr. Noorigian.

Thank you, and thank you for joining us today for CN's fourth-quarter and full-year financial results. With me today are Hunter Harrison, our President and Chief Executive Officer; Claude Mongeau, Executive Vice President and Chief Financial Officer; and Jim Foote, Executive Vice President, Sales and Marketing.

Today's remarks may contain forward-looking statements within the meaning of applicable securities laws. Such statements are based on assumptions that may not materialize and are subject to risks described in CN's MD&A and other disclosure documents on our website. As such, actual results could differ materially from what we present today. Any non-GAAP reconciliations are also on our website.

For the question format today, after the presentation, we will be taking questions from those of you who are on the phone. Could you identify yourself when you're asking the question, and in order to be fair, could you please limit your questions to two or three? We have a lot of people on the call and we want to be fair to everybody.

With that, it's my pleasure to introduce our President and Chief Executive Officer, Hunter Harrison.

Thanks, Bob. Thank all of you for joining us this afternoon to review the fourth-quarter and 2006 results. Clearly, you have -- I trust you've seen the press release by now, and obviously, I'm very, very pleased with these results. Before I ask Jim and Claude to further dissect them in a little more detail, let me make just a few observations about the quarter and the year.

From the quarter standpoint, we maintained solid topline growth, despite some challenges that I will discuss in a moment. Our revenues were up 3%, as reported. We were up 5% exchange adjusted. We continued our disciplined operation, which produced an operating ratio for the quarter of 61.1, which is a record for the fourth quarter, which further proves the effectiveness, I think, of our precision railroading model.

Solid EPS results of adjusted, adjusted for a tax pickup, and Claude will discuss that further, but our EPS same-store was -- were up 15% to C$0.90. It's up 18% if you looked at it in U.S. dollars, and all these results were produced with some pretty adverse weather conditions that we experienced in western Canada, particularly in British Columbia. I think it's probably the worst weather I understand that they have experienced in over 50 years. We had extreme rains, snow in British Columbia, avalanches, mudslides, ice, and our operating group in western Canada did an outstanding job maintaining the revenue level that we produced in spite of these conditions.

Looking at the whole year, it was, again, record financial performance. Full-year operating ratio of 60.7, which is about a 3%, 3 point improvement over last year. C$1.034 billion in free cash flow, C$7.7 billion in annual revenues, up 7% or 10% exchange adjusted. I was very pleased the continued intense focus internally on our safety efforts, and we saw double-digit improvement in our main track accidents. From an FRA standpoint, they were down 10%, and from a TSB, or Transportation Safety Board, here in Canada, they were down over 25%.

We have just completed a couple of new labor agreements which I'm very pleased about. The first one was the second re-up by the engineers on the Grand Trunk of an hourly agreement. That agreement was ratified in December. We were very pleased with that. And we just, last weekend, signed an agreement with the CAW, which I was very pleased about. For the first time ever, as I understand it, in CAW history, we signed an agreement that went beyond three years to four years. It was a much, much different environment for the negotiating. The relationship has improved dramatically. There is a sense of trust, and I'm very, very appreciative to the CAW leadership and their membership, and I'm very, very optimistic that we will have that agreement ratified and we should know the results of that in the next couple of weeks.

And so with that overview, let me call on Claude to break some of the numbers down in more detail.

Thank you, Hunter. As you said, despite the adversity on the weather front, we posted solid performance here in Q4. It was a good finish for 2006. Our revenues were up 3% as reported, but if you adjust for exchange, they were up 5% on a year-over-year basis. We've seen a little bit of slowdown in volume in certain sectors, but that was more than offset by grain and coal and just generally our bulk business really performing very well.

And although the fuel surcharge is less of a boost on a year-over-year basis because fuel price came down during the quarter, the fact is that our troops continued to focus on solid yield, and Jim will give you more details on that performance sector by sector.

If you combine good topline with solid cost control, you get good operating results. Our operating income was up 5% on a year-over-year basis, and we finished the quarter with an operating ratio of 61.1%.

We also had good health below the line. We completed a number of tax audits, which gave us some -- we have the ability to reverse the fuel reserves to the tune of C$27 million or C$0.05 on the EPS front. Other income was also a good performance. This is a lumpy area. On a year-over-year basis, other income is up C$17 million. About C$10 million of that is really realized foreign exchange gains.

As you know, during the quarter, the Canadian dollar basically declined, and so that gave us basically C$10 million of realized foreign exchange gain, which can be volatile. On a full-year basis, if I was to exclude this C$10 million, we would have finished bang-on with our guidance with essentially a full-year breakeven in terms of other income.

All in all, reported EPS, C$0.95, excluding the tax recovery, C$0.90. That's an increase of 15% on a year-over-year basis, so a good finish to 2006.

Let's take a closer look at expenses. Pretty much across the board, solid cost control. As you can see, our expenses on an exchange-adjusted basis are up only 3%, but really, the story is fuel. If I exclude fuel, our expenses on an FX-adjusted basis are really basically flat on a year-over-year basis. Very good performance on labor and fringe. They're up only 4%. Our workforce came down on average half a percentage point, and that was offset by wage increase and also the impact of slightly higher pension expenses.

The fuel expenses are up 18% and that is despite the WTI being at C$60 in both years, C$60 per barrel. The story is really a loss in the hedging gain. In 2005, we had basically C$45 or C$44 million of hedging gain and of course, we had none in Q4 of this year, so that explains the increase on a year-over-year basis for fuel expenses.

Equipment ramps are up year over year, up basically by 39% on an exchange-adjusted basis. There is about C$10 million here which is a reduction in our car hire income. As you know, car hire income is an offset to lease and other equipment rent expenses, and as we see velocity improve in the U.S. with our railroad partners, as we see some softness in a couple of sectors, lumber and others, we have received less car hire income and that shows up as an increase to this expense.

The fact that the velocity is improving is good news, though, because that gives us the car back and we can pursue topline growth opportunities without adding to our car fleet.

Finally, casualty and other expense are down significantly on a year-over-year basis. We see here the benefit of a C$30 million reduction in our personal injury reserves. It's a very good story. We're seeing lesser frequency and also much better severity for the claims that we have for our active workforce, and we also have benefit based on our actuarial study for the occupational disease claims that relates to asserted claims of the past. So overall, that C$30 million reduction obviously is a significant reduction, but it bodes well for the future.

This is, as you know, a bit of a volatile expense category. The run rate that I have given you in the past is in a range of C$80 to C$85 million, and I think that still holds for next year -- perhaps a little bit higher in Q1, but on average for the full year, in a range of C$80 to C$85 million for casualty and other.

If I look at the productivity story, clearly it continues to unfold. Look at train performance -- train length was up 4% during the quarter, fuel efficiency continuing to climb, up 1%. Car velocity improved, up 5%, and yard throughput, we're making significant breakthroughs in this area. Yard throughput improved by 15% during the quarter.

And we are also proud, as Hunter mentioned, to have turned the corner in our safety stats, and that also bodes well from an expense standpoint going forward.

If I focus on free cash flow, we turned in a very strong fourth quarter -- actually a little bit stronger than the guidance we had provided you. We finished the year with a record performance, C$1.343 billion of free cash flow. Of course, the profitability increase is the core story, but we are also making good progress on working capital management, and that is helping us generate cash that all counts at the end of the year.

We used the cash to buy back shares. For the full year, we bought 29.5 million shares for just under C$1.5 billion of cash. During the fourth quarter, we also bought back shares, obviously, 7 million shares, so that leaves us on our current program with 12.5 million shares to go, which we will be buying in the first half of 2007.

The strong performance in terms of our free cash flow is what gave our Board confidence to announce yet another increase in our dividend. This is the 11th consecutive increase in CN's dividend and it has been increased to C$0.84 on an annual basis or C$0.21 per quarter. That's up 29%, and really if you look back, over the last 11 years, we have increased our dividend on average at a rate of 18% compounded for that period. So we're very pleased with that performance and we think that the strain in our cash flow results are paying dividends in more ways than one to reward our shareholders.

Let me say just a few words on the full-year performance. Overall, 2006 was really a remarkable performance -- strong topline growth. 10% up on an FX-adjusted basis is really what drove those results, combined with solid cost control. That's what led to the record operating ratio, 60.7% for the full year, a drop of more than 3 percentage points. And again, EPS very strong. If I exclude the onetime tax recovery, a full-year EPS of C$3.40. That's up 23% from 2005.

So obviously, we're pleased with these results, and as we are announcing them now, we're squarely focused on the performance for 2007, and that's where I'll finish my presentation, saying a few words about the outlook for the year that's coming.

Clearly, we are mindful in monitoring the economy. We see some sectors that are slowing down, but we're still calling for a soft landing and an economy that would grow or expand at the rate of around 2.5% GDP growth. In this kind of environment, we are aiming for another year of solid topline growth. Jim will give you the detail, but roughly 5% to 6% growth, FX adjusted, with good balance between volume and pricing gains.

If the topline growth is there, we have scope for 10%-plus EPS growth next year. Obviously, we'll need to continue to focus on cost control, because, as we discussed in Q3, we do have some headwinds to deal with, and I will mention only one, because it's very important, and it's really fuel.

If I leave price to the side, next year, the hedging gain will be a loss of C$65 million, and the fact that we've announced that we will be reducing our fuel surcharge tariff for 2007 as of January 1 is going to cost us order of magnitude another C$50 million. So the two together is C$115 to C$120 million, so that's really C$0.15 of EPS or a 5% EPS growth headwind that we have to deal with.

So you have to put in context our guidance with this kind of headwind, but on balance, very, very solid outlook, and if the economy holds, we believe the makings of another very good year in terms of earnings.

On free cash flow, our target is C$800 million. We will have to obviously deal with the C$100 million or so higher dividend payment, because we measure our free cash flow after dividend. The story really on a year-over-year basis, though, is cash taxes. We've discussed this with you in the past. We are cash tax payable, and all of the cash taxes that we should have paid in 2006 will really be paid in one lumpy installment in Q1 of this year.

So that C$340 to C$350 million of cash taxes, if you really -- if you look at it, if you deducted it from our performance, we should have finished this year with C$1 billion of free cash flow after cash taxes. And conversely, next year's C$800 million, if you add the C$350 million, you get to C$1.150 billion, which is an increase of 15% on a year-over-year basis. So it gives you perspective in terms of our steady-state performance.

In 2007, our cash taxes will be just under C$1 billion. And after that, it will come back to a steady-state of around 24% or 25% of income on a go-forward basis as a cash tax rate.

So all in all, that's our guidance for the year. Obviously, we are early in the year, but we're focused on delivering the results. We have our work cut out, but we're looking for another good year in 2007. With that, I'll turn it over to Jim.

Thank you, Claude. I would like to go through the revenue items now in the manner in which I always do, discussing them on an exchange-adjusted basis. The fourth quarter was clearly a good finish to a great year. On an exchange-adjusted basis, we had revenue growth in the fourth quarter of 5%. Breaking that down a little bit, 4% growth from price -- this is consistent with prior quarters, where we continued to target and achieve price increases in the 3% to 4% range. The fuel surcharge added 1% as coverage increased during the quarter, but fuel prices declined and more customers migrated to our lower -- our new lower fuel surcharge tariff.

On the volume side, carload volume was down 5%, driven primarily by two factors, one of which we discussed last quarter. That was -- there was a fire at United Taconite's Northern Minnesota facility on October 12 of last year, which stopped the shipment of iron ore and pellets. The second item is this discontinued move of Powder River Basin coal from East St. Louis to Paducah. Both of those moves are very short distance and have a high number of carloads associated with them.

For your information, there was 45,000 carloads that we did not move in the quarter for United Taconite. Those carloads would have each moved on an average of only 27 miles. So when you exclude the impact of those two specific moves, carload volume in the fourth quarter would have been flat.

We also experienced some decline in volume in the fourth quarter due to difficulties in handling customer shipments as a result of the severe weather, but that exact number is much more difficult to quantify. So we take the high-volume short-haul business out of our mix and factor in our growing longer hauls in general. The average length of haul increased in the quarter. Our average revenue per unit increased, and this favorable mix offset the volume decline.

Go through the line items now on the slide here one by one, starting with the petroleum and chemicals, which was up 8%. Breaking that apart, petroleum up 3%. The oil sands development continues to increase demand for diluent shipments from both the West Coast of Canada and from Texas. Plastics business grew as major producers in Eastern and Western Canada took advantage of good demand for their products during the quarter, and sulfur demand continues to be strong.

On the chemical side, we were up 10%. Continued improvement from the previous -- again, kind of a run rate from the previous quarter, driven by increased demand for products like methanol and sulfuric acid.

Metals and minerals was down in total 3% in the quarter, but kind of two different camps here. The metals business in the fourth quarter was up 10%, with shipments of aluminum and zinc and copper ores and metals much higher in the quarter. Pipe and pipe fittings continues to move strongly, principally due to the demand ongoing in the Alberta oil sands area, and demand for flat-rolled products remained pretty good throughout the quarter, especially steel plate producers in Eastern Canada.

On the other side, minerals, down 12%, and in our minerals category, we include roofing materials, brick and aggregates, which were down due to declines in the housing market and slower construction activity.

Iron ore, down 5%, driven principally by this one move that I described earlier on the United Taconite facility that had an incident in October. That mill is now back and online. Forest products also down, in total 3%. Lumber and panels, lumber down 5%, panels down 4%. Again, this is driven by the weakness in the U.S. housing market, as well as some, I believe, results from the implementation of the softwood lumber agreement between the U.S. and Canada, which makes it a little more difficult for some of that product to move across at certain times, and we experienced that in the fourth quarter.

Paper down 2%. The paper markets remained soft, but our volumes are getting better as Stora Enso has brought their paper production facility back online after a long strike, and we also continue to see market share gain from truck with our white paper initiatives. And woodpulp and fiber is down 3%. This segment continues to undergo restructuring and adjustments to market conditions, really directly tied to paper production.

Going over to the automotive group, down 4%. We had slower finished vehicle shipments and parts, traffic from some U.S. manufacturers as well as some quality hold issues in the quarter, but this was offset to some degree by two new distribution facilities that came on very late in the quarter, as well as strong import vehicle traffic on both the East Coast and the West Coast.

Let's move on to the bulk group and we'll talk about coal. Coal in the group in total, up 27%, with Coal Canada being up 32%. Again, good gains in Canada this quarter, with higher volumes coming from both Coal Valley and Cheviot, which had mine expansions, as well as the fourth-quarter positive effect from Western Canadian Coal's new mine, which opened in August.

Again, good, strong growth on the U.S. as well, up 23%, where we're seeing some good moves of Illinois Basin coal, as well as some import metallurgical coal coming through our Gulf transload facility and then moving on to our network to destination.

Grain and fertilizer is up 15%. Grain Canada up 14%, very high-quality product, which is driving strong export traffic, moving traffic out of the West Coast ports, as well as bringing back some moves that we didn't have last year because of the weak-quality crop. Our all-rail moves to the eastern ports for export is much better this year.

Grain in the U.S., again sitting on good stocks of both corn and soybeans. Those corn and beans moving strong to export markets, as well as soybean meals. And we have continued to see growth in the ethanol business in the U.S. And fertilizers, very strong, too, with potash moving into the U.S. very strong, as there are some international sourcing issues due to a Russian mine issue, which has caused some distortion. And therefore, Canadian producers are feeding the U.S. market now pretty well.

And then last, intermodal up 6%, overseas, 8%. Demand there very strong. This is one of the areas where we have had some difficulty caused by the weather issues in British Columbia, as Hunter said, but both good demand on both the West Coast and Eastern ports, both Halifax and Montreal.

And our domestic business is doing well, especially in the U.S., where we've had a new focus there and have been growing our business in the Chicago-New Orleans corridor quite well.

So that's a good review. Quickly going to the next slide, as I said last time, this is the slide that Mr. Noorigan likes me to add because he like to see what I just went through in a simplistic graphic form. This is just looking at the carloads, showing a direct impact from a couple of these onetime events and the impacts that it had on the carloading in Q4 and the full year.

And then on the next page, a quick way to look at the outlook for 2007 by the various markets. We will see revenue and volume growth in all groups in 2007. That's our outlook right now, including forest products, although that will be just barely in terms of volume and revenue.

On the petroleum and chemicals side, the opportunities from the condensate into the tar sands, the oil sands in Alberta as well as the new low ultra -- low sulfur diesel gives us good opportunities there. Metals and minerals, there's solid demand there, as well as the rebound from this issue with the taconite that we had in the fourth quarter -- gives us a good outlook there, as well as a lot of opportunities associated with the oil sands in the metals and minerals.

On the forest products side, we see paper growth as the paper markets stabilize, and we see the gains from some of our projects that are driving the market share gains, and lumber in the second half of the year, we would expect to see some rebounding in both lumber and panels. Coal, going to be a little more difficult for us on the Canadian side moving forward into the rest of the year as we begin to lap some of these projects that have come online, but we still see growth opportunities as well as a new mine opening up in the U.S. in the Illinois Basin.

Grain and fertilizer, again, we're sitting on a great crop in Canada, above average crop in terms of size, excellent quality, and the export projections being up almost 14%. Similarly, in the U.S., a good crop, as well as the increases that we expect throughout the year from the ethanol producers.

Intermodal, it's continuing to focus on and is seeing a good demand in the international, and we're going to continue to bring this new focus to the domestic business, not only in Canada, but a very strong focus on our domestic intermodal traffic in the United States, and then we have the new distribution facilities that will help drive the automotive sector for the year.

So very solid demand across each one of our segments of our very diverse portfolio and the opportunities being driven by our good service plan. A good pricing environment still in this, consistent year after year, 3% to 4% range. The Prince Rupert project is scheduled to come online in the fall. We are certainly in active discussions with many key customers and it's still my belief that that facility will be sold out when it opens.

So all wrapped up as just in line with what Claude said just a few seconds ago, targeting topline growth for the year in the 5% to 6% range, and I would expect that to be split just about 50-50 between volume and price. Hunter?

I think the results speak for themselves. Record results in 2006 by a team of all-world railroaders, in spite of some of the challenges that I've talked about in December and late November, and to some degree, what we've experienced a little bit of in January.

I'm extremely optimistic about the outlook for 2007. This story is a long way from being over. We have some exciting initiatives in the pipeline, some things that we will be talking to you about in Toronto in May at our analyst meeting, if not before. We are continuing to focus as we always have on rewarding our shareholders, and I was very pleased with the Board's action this morning to raise our dividend even more aggressively than we have in the past. And the focus next year will be more of the same, just doing a basic good fundamental job of railroading and producing the kind of results that you are used to seeing.

So with that, Angie, we would be happy to entertain questions the group might have.

(OPERATOR INSTRUCTIONS). Tom Wadewitz, JPMorgan.

I guess I'll keep it to two questions here to be respectful for Bob. Let's see. On the demand outlook, Jim, you commented you're going to see growth you think across all the segments. Should we expect that to come in kind of slowly and maybe it's stronger back half than first half, or do you think we'll actually see the volume story turn around relatively quickly in, I don't know, over the next couple months?

I think we'll see the volume story turn around consistent with the guidance here in the first quarter as soon as we get some of these weather issues behind us that are slowing us down.

So you think you'll actually see some volume growth, then, in first quarter?

Yes.

And I guess for Hunter, can you give us some thoughts on the impact of some of the productivity initiatives that you have in place and whether you would expect perhaps greater cost opportunity in '07, or if some of the bigger productivity initiatives have already been harvested in '06, maybe that slows down? Maybe just give us a sense of where you're at on cost side and productivity initiatives.

Tom, it will not slow down in '07. I'll go and just mention a couple of issues, but clearly, Smart Yard is kicking in at a faster pace than I thought it might. We've seen some, and I think I've talked to a lot of you about it, some outstanding improvement in the performance at our hub in Toronto at Mac Yard, which we're going to show off to you in May. That's leading to some further improvements in Simonton Yard in Winnipeg, which will probably lead to the closure of the hub at one of our major yards.

The siding initiative in Western Canada is taking -- developing good traction. And we have developed kind of a unique concept of doing the same thing with -- over the lakes from Toronto to Winnipeg with reducing train starts but without making a significant capital investment. It was going to be in the neighborhood of C$120 to C$130 million, which we felt like we cannot justify, so we're kind of doing a poor man's extension and doing some double sawing in a unique way. That's just to mention a few, so you're going to see as many or more cost initiatives and productivity improvements in '07 than you've seen in '06.

On the Smart Yard and the Western siding, have we already seen a meaningful impact in, say, third quarter or fourth quarter or have we not really seen much from those and they ramp up in '07?

No, I think you've probably -- well, third quarter, because fourth quarter was weather impacted. You probably saw 50% of it in third quarter, and probably fourth quarter it was kind of washed out by some of the other initiatives, so in Smart Yard and the Mac Yard project, you've probably maybe seen 15%, 20% of it.

Ed Wolfe, Bear Stearns.

Hunter and Claude, at the analyst meeting a little over a year ago, you talked about growth and that you were going to grow and revenue would grow 5%, 6% a year for five years. I think at that time, you had talked about kind of a pretty even mix between volume and yield, and in '06, we kind of saw it all come on the yield side and not on the volume side. If you go back a year ago and you had to think to yourself, are we going to get it all in volume, or are we going to get it all in yield, what positions us better, how do you think you would have looked at that? And going forward from here, how do you see that playing out?

I think that what we've talked about in the past, it's not a lot different. I think one of the things that happened a little bit, clearly we did not anticipate -- I certainly didn't anticipate that we would see the softness in the foreign products side that we saw, particularly on the lumber side, as quickly as it happened. Now, I think that's changing to some degree going into '07, given that the weakness of the Canadian dollar. Jim talked about, for an example, the issue with the coal.

I had said to you all before, I think that the worst proxy in the world for performance of a railroad is looking at carloads. If you've got a carload that's worth C$100 and one that is worth C$8000, a car is not a car is not a car. I think we will continue to see growth. I think, and Jim could comment on this also, I think, in my view, the mix between price and volume will probably be similar to what we have seen. I think our intermodal business going forward, even setting aside Prince Rupert, will be stronger than we've seen. So I'm not sure if things look a lot different than what we talked about a year ago.

I would just add, Ed, that basically, I think, as Jim mentioned, the best proxy is probably to look at RTMs, and in 2006, the 10% FX adjusted is a decent balance -- a third, a third, a third between volume as measured on RTM, price and fuel surcharge. So going forward, we need to continue to have that same balance, and I think that bodes well. With a strong topline growth on a high fixed-cost business, that's what we need for the model to work on a sustainable basis for the long term.

Thank you, and just as a second separate question, you talked about weather impact and you also talked about C$30 million of insurance reduction. Can you talk about both of those impacts going forward? In other words, how much of that insurance reduction is carried forward and how much of the weather impact, if you can quantify it, hurts you, and how much that is -- you can either make up or is it a wash this quarter so far? Is it a negative or is it a positive for you?

I think on balance, you can call of it a wash, but basically, it's not so much insurance, Ed. It's our personal injury reserves that have come down in casualty and other. So on a year-over-year basis, you saw a significant decline, and we've said before, this expense category is very volatile. A good run rate on an average basis for the full-year is C$80 to C$85 million per quarter. So you can say we picked up C$0.04 or so from legal claims and casualty and other, but it's really a wash when you factor in the impact of the weather. Hunter, you maybe want to comment on that?

Yes, Ed, I think there's no doubt that we got impacted a little bit from an earnings standpoint in fourth quarter. You can argue about what things were affected by the weather and which weren't, so it's kind of an art, not a science. But if I had to give you a number, I would say it's somewhere less than C$0.05 and more than C$0.03.

Some of that business, I think, from a revenue standpoint, carload standpoint, very little was lost. I think it's a tiny issue. There's clearly some congestion now at Vancouver because of the high winds, that they couldn't unload or load intermodal business, and so it will probably be two to three weeks, if we experience good weather, on getting that caught up.

So had we had some of the same things that we experienced in late November and December, we're experiencing the first part of January. I think at this point, and I'm kind of knocking on wood when I say this, the weather has lightened up. We're not experiencing extremely low temperatures. We had some mudslides and avalanches. But, from a timing standpoint, I think by the end of the quarter, we won't know it happened.

David Newman, National Bank Financial.

It looks like the CAW is set for ratification. On the UTU, does it look like they might go out, and could that affect -- what are your contingency plans and could that affect, I guess, the recovery of some of the backlog you have on the West Coast?

I would prefer if you would give me an opportunity to do this. I think it's probably inappropriate while we're in formal negotiations to be commenting publicly on and speculating on what may take place. I don't think that's healthy for the process. Only one side of the group gets to talk. I can just promise you this -- you've seen that we've had problems and challenges in the past with these type issues and we've dealt with them I think very effectively. If we have to do it in the future, we will do it effectively. But I'm very, very and hopefully optimistic that we will be able to get this resolved without any issues that you suggest might take place.

Okay, I understand and appreciate that, Hunter. And just in terms of more theoretically, what does it take, I guess, to get what CN management would like to have in place, which is hourly agreements, into the Canadian environment? Obviously there's a lot of benefits that flow out of that, and it does look like you've offered quite a substantial comp increase for the employees. What's it going to take to get there?

Well, let's put it this way. I think, in my view, and I've had a lot of experience with this, and we should appreciate -- all of us should think about this -- this took awhile in the U.S. I started these first negotiations. I'm not proud of this track record, but I started in 1992, and I got the first one actually ratified -- I got a lot of them signed, but none of them ratified, until 2001. Nine years.

Now, I'm not suggesting it's going to take nine years in Canada. I hope it doesn't. But, it's an issue of, one, trust, two, people understanding the issue and being able to appreciate what it can do for them from a quality of life and job security and if there's something in it for both of us. And railroads, shame on us, have not historically or traditionally had a good working relationship with labor as we should. We're working very hard to try to change that.

I think it's just a matter of people understanding, seeing it, becoming comfortable with it and understanding that what we did in the U.S. is we gave everybody the right, if they didn't like it after the first time, to revert back to the old. So there was not this -- some secret plan we have, and everyone in the U.S. has re-upped. No one has changed it, and if we would try to change it back, I think they would throw fits. But change, I have learned, is difficult. It's difficult to do. We don't like change. People are just going to have to get more comfortable with the concept.

Excellent. Thanks, guys, and good results, despite the crazy weather.

Scott Flower, Banc of America Securities.

Just a couple of things. One, and I know that we're speaking a little bit in broad strokes in terms of looking out at revenues, but I'm just trying to get a sense -- obviously, when you talk, Jim, 50-50 between sort of the volume side and the price side, the price side would be a little bit toward the lower end of your bandwidth. Is that any reflection of the broader environment, or is it just such round figures that it's really no real change in your sense of how the pricing dynamic is working? Obviously up, but just relative to sort of the 4% run rate you've been at over the last couple of quarters -- 3%-plus would be toward the lower end of your 3% to 4% range that you've talked about.

No, Scott, there's no change in the dynamics whatsoever. I think I've always talked, and not just for the last couple of years, but for the last five years that I thought it was a reasonable range for us to attempt to achieve price increases of 3% to 4% per year. Obviously, this year and certainly most of last year, we were closer to the 4%. After three weeks into January, I would like to be able to tell you that I hope it's 4%, but a range of 3% to 4% at this point in time I think is reasonable.

Okay, and then the other quick question I had is, I know you all talked about intermodal, but how much of what was backed up relative to weather in BC and Vancouver related to the export grain business versus what you talked a little bit about on the intermodal side? In other words, what may have been pushed out of '06 into '07 from a timing standpoint?

Intermodal?

No, I was thinking more on the grain side, because you all have talked a little bit on intermodal. Was there any grain pushed out from some of the weather issues that would have gone export through Vancouver?

Yes, I think there was probably -- again, it's difficult for us to quantify exactly, Scott. Obviously, everybody knows that there's a container stacked up at Deltaport that's easy for everybody to see. That's revenue that we would have picked up. Sure, there was a little bit of grain -- some grain that could have moved. Probably a little bit of coal that we could have moved, some sulfur that we could have moved. The merchandise business more often than not migrates maybe a little bit to other sourcing or truck, so you kind of throw all of that in the hopper and that's where we get to this whether it's C$0.03 or whether it's C$0.05 range, somewhere in between there.

More of the revenue impact, then, what I'm sensing, was really on the intermodal side.

Overall. Right.

Yes, that's a big item for us there. And again, as soon as we get the weather under control and we get that fluid, we will pick that up and move it as quickly as we can.

Jordan Alliger, Deutsche Bank.

Just a couple things. Can you talk a little bit about plans on the headcount front and the labor cost per employee growth?

We're continuing to make attrition work for us. At the same time, we're working with our workforce and our unions to make sure that they do the work that they are good at doing, so in some areas, we are actually bringing in workers to do the work instead of outsourcing, and in other areas, we're making attrition work for us. So we've been able to, during the year in 2006, to -- the decline in the workforce in the range of 2% to 2.5% in the first three quarters, you saw in Q4 that slowed down a little bit. We're down half a percentage point. It does reflect some of these initiatives I'm talking about.

So going forward, same level to slightly down in terms of workforce is the way we are thinking about workforce planning. From there, you do have wage increases, and we're trying to offset that with initiatives like reducing overtime, etc., etc., so that overall, you can think of cost per employee in the 3% to 4% range, offset a little bit by overtime and other initiatives.

And then, just sorry to follow up on the casualty thing -- I guess my question is, I'm just not sure I understand why the run rate goes back to 80% to 85%, because I would imagine the lower rate in the fourth quarter was tied to some sort of claims experience that might make it more ongoing.

No, really what you have to think about is a lot of the claims are claims that have accumulated over several years. Some of them are for occupational disease claims, which have employees that no longer work for us. With the good experience and our ability to reduce claims, helps us reduce the assertive costs for those claims. And that's a onetime adjustment to your reserve.

Similarly, on the active workforce on the FELA expenses, of course we're getting the ongoing benefit, and that will continue going forward, of having fewer accidents and those accidents being of less severity. But the onetime true-up to our asserted claims is a lumpy item into Q4, which you should not expect to come back, certainly not in the first three quarters, because we do the actuarial study only on the Q4 of next year. So perhaps if things continue to go well, perhaps we will have another adjustment in Q4 of next year, but it would not be prudent to model that going forward.

Okay, thanks for clearing that up. That's it.

Cameron Jeffreys, Credit Suisse.

Just one left on my list and it's for Jim. I'm wondering if you can just talk about the Prince Rupert facility in a little more detail in terms of your discussions you are having. You indicated in the third-quarter call you had been over in Asia and you'd hoped to have a few of the -- a few, I guess, contracts signed by year end. Can you just give us an update on those, what's the tone of the discussions? Can you give us any clarity on how much of the facility you have sold out at this point in time, if that's not too competitive?

Well, I think I want to be a little cautious here. I think at this point in time we are in active discussions, I guess you could call it negotiations, with a number of significant steamship companies, and I am confident, as I said earlier, that we will have this capacity contracted out for by the time it opens. Beyond that, because of the nature of the discussions, I'm really somewhat reluctant to get into any more detail.

Can you give us any idea as to particular areas, particular goods that are being shipped that, is there any kind of one area that seems to be maybe a little more focused or is it pretty balanced in terms of the types of stuff that you are planning on bringing in?

40-foot containers full of retail product for the North American market.

Okay, so all retail. Okay. Great. Thanks very much.

Robert Fay, Canaccord Adams.

Couple of questions. First of all, for Claude, the other income line, the C$27 million that occurred in the quarter, can you give us a little bit more flavor on that and what type of run rate we should be looking at?

Yes, Bob. As I said, we had given guidance for a full year, other income that is breakeven. And basically, other than the fact that we had a foreign exchange gain in the fourth quarter of around C$10 million, we would have come in basically on target. So our guidance going forward continues to be breakeven to a slight loss. This is a lumpy area, but on an overall basis, when you look at it at the end of the year, breakeven is not a bad run rate to use for other income going forward.

Second question, regarding the expectations that you've got, Jim, for the year, what type of economy and FX rates are you using sort of as your guidance for the year, and coming to the revenue numbers?

Bob, I think we started out with a GDP of 2.5%. The U.S. has been -- now they've kind of been adjusted up for the first quarter. Exchange, I think, is a little more, depending upon how you want to look at it, favorable for the Canadian manufacturers now than it was when we put the assumptions together. But for me to get to the 3% to 6% or the 5% to 6% based on 3 and 3, all of these are based upon bottom-up initiatives that are already in the works, and I expect to achieve those numbers irrespective of whether or not we have a 2.2 or 3.2 GDP growth.

I guess one of the issues that I'm just trying to understand is in the forest products sector, the dollar is biting them quite hard. And I was just wondering, are they coming back asking for any rate relief from you on the business?

No more right now than they have been for the last two, three, four, five years. And to the extent that we work with our customers all the time, if it makes sense for us to help them to get into new markets, those are certainly things we have -- a dialogue we would have with the producers, whether it's lumber or paper, all the time.

James David, Scotia Capital.

Jim, you mentioned you sort of reconciled the carload and RTM activity in the metals and minerals and on the coal side. I'm talking about some of the short-haul. You had the same sort of thing going on in the forest products. Can you remind us what the long-haul opportunity there is, since you had much better RTM than carload activity, and what that's going to look like through the balance of 2007?

The growth opportunities that are going to come for us in the forest products area are going to continue to be lumber out of -- lumber and panels out of Western Canada, so that is a longer-haul move for us, as well as the paper activity that's coming online. It's coming out of Port [Oxberry], so again, that's a long-haul move for us into the Central Canadian and U.S. markets. So I would expect that kind of run rate that we talked about here, we're going to continue to see longer-haul moves, the higher revenue per car business.

Okay, and you mentioned in your comments -- I know you have to make predictions about things as you sort of guide -- the expectation that the second-half lumber and panel business, you should get some recovery on a year-over-year basis. I guess the question is, if things don't pan out, the U.S. consumer is not reacting to the status quo Fed or loosening, and we're not getting that kind of reaction, how flexible are you in terms of reallocating your capacity in terms of track and locomotives to maybe other areas of strength?

I think we have certainly shown in the past our flexibility, our resilience and our creativity in order to respond to difficult business environments. If you remember back what we did when we had the grain issues, we shocked everybody on our ability to reallocate and do things differently. And we would certainly go out and find other business opportunities if we -- if in fact the lumber market or the lumber producers in Canada continue to suffer.

Ken Hoexter, Merrill Lynch.

This is Jeff Fidacaro for Ken Hoexter. Just a quick question on the coal side. When we normalize for let's say Coal Canada and some of the newer mines, how should we think about more of a same-store sale volume growth on the coal business?

Are you talking about how to look at the business growth on a kind of like on a per-unit basis as it relates to us?

Yes, exactly. And normalized, like you say, given the quarter, you had 989,000, or the normalized carload growth was about 94,000. Is that -- how should we look at it going forward?

Yes, I think from a starting point in Canada, the Canadian growth rate, we're going to have relatively low percentage volume growth rates in Canada, again because we are overlapping. And the per-unit revenue would be similar to what you have seen in the model today. I hope that answers your -- I'm trying to answer your question.

That does. And if I could just jump quickly over to Claude on the equipment rent side, when you talked about a C$10 million reduction in car hire, again, similar to what you gave for the casualties, did you give a run rate basis that you're targeting?

I think what you see at the moment for Q4 is as good as a run rate as you can think of, because the fact that the velocity is improving is something we hope that it will continue. For us, you have to realize, for every car CN that goes offline on the U.S. railroads, we collect car hire. So if the velocity improves, we receive less car hire income, and that shows up as an increase in expenses. But the offset to us is a car that's coming back faster so that we can reload it and pursue revenue opportunities or right-size our fleet if there's no business opportunity to pursue. So I think what you see in Q4 is not a bad run rate to use going forward.

Randy Cousins, BMO Capital Markets.

Claude, I wonder if you could give us some greater -- you talked about this C$0.15 headwind. Can you give us a sense of the sensitivity to fuel prices in the headwind, so in other words, if fuel goes up C$5 a barrel, what does that do to the headwind, or conversely, if it goes down C$5 a barrel, what does it do to this C$0.15 headwind you're talking about?

Randy, that's a good question. In fact, what I've tried to do is to give you the headwind independent of price, because really, you can think of it this way. Whatever happens to the price of oil, up or down, on the expense front going forward, we have no hedged position, and you will have basically enough that, with a bit of lag coming from the fuel surcharge on the revenue, so prices up, prices down, we are indifferent.

What is moving year over year at any price is the fact that we will be losing the hedging gain, which totaled C$65 million in 2006, and the fuel surcharge, Jim has announced during the fourth quarter that we will be reducing our fuel surcharge to reflect the good progress we are making with the coverage in our customer base by the slow -- coming down a little bit. That will cost us C$50 million of revenue. So if you add those two, C$65 plus C$50 million, that is C$115 million of profit we have to make up. And that's the C$0.15 that I've talked about.

So this is totally -- I just want to make sure I understand -- it's independent of what your fuel price -- so if the fuel price drops to C$40 a barrel, this is not going to help the comp issue?

Correct as it relates to what I've discussed. Now, to the extent that the fuel price comes down, obviously Jim's revenue will be impacted because we collect less fuel surcharge, but the expense will be down, so net-net, there shouldn't be a big impact. If fuel prices was to go up, then the reverse would be true. So I think this is just a structural headwind that we are dealing with. It's large enough that we've spent a minute to discuss it because I think it just helps you guys understand that next year, we see a lot of momentum, we see a lot of initiatives, but we have this C$120 million to deal with, which is just a fact of life.

The second question is with reference to your cash flow statement, there is a C$403 million source of funds in accounts receivable in the fourth quarter. What's going on there?

It's just the sale of our accounts receivable. We changed -- we introduced a new program for our account receivable securitization program midyear, and initially, we didn't need the cash, so through the year, we basically sold receivables, and so that gave us an influx of cash as a result of that. But when we measure free cash flow, if you look at the footnotes, we always adjust for movement in accounts receivable securitization. So it shows up in the statement, but it does not impact at all our measurement of free cash flow.

And then the last thing, in reference to this tax liability, that's buried in the accounts -- that's in accounts payable and accrued charges?

You're asking a good question. It is a short-term liability because the C$350 million is due in Q1, but I would have to take the question offline to tell you exactly where it is on the balance sheet.

Walter Spracklin, RBC Capital Markets.

Just wanted to come back to Hunter on the cost initiative side, and as you continue with these -- your progress on the cost initiatives, I'm wondering if they do start to get more expensive as you achieve them. You mentioned closing the hump yard. Will we start to see any charges coming as a result as you get a little deeper on the cost-saving side?

No, there's no expense related to it. Let me clarify. What I'm saying we will probably do is close the hump at the yard. The yard will just do a different function, but it will be less expense associated with it because the hump will probably be closed. But there's no -- this is just expense reduction.

More generally, basically, we don't book charges anymore. We -- just for accounting rules, if we have any liability for employee reductions, for instance, we book that as we go. But on this front, the fact that we have a lot of attrition is really helping us, and we are quite surgical in our approach, and we work with our -- to make sure that we're doing the best possible workforce planning and we are minimizing those outflows to a great degree.

Last question just on Prince Rupert, I know weather had an impact on your operations, but anything on the construction side over there? Any delays with respect to weather, either in the fourth quarter or going into the first quarter here?

No, we're moving right along on schedule.

Perfect. Thanks very much for your interest.

Bill MacKenzie, TD Newcrest.

Just a question on Prince Rupert, and I'm just wondering, as we get closer in time later in the year to the ramp-up of the alliances with that port, should we expect to see any ramps in costs as you prepare for the business coming through there, whether it be on a headcount perspective or increased depreciation expense, or will those expenses start to occur in kind of real time as that volume comes online?

No. There's no kind of pre-ramping up, pre-expense associated with this, the cars, etc. We don't need to start incurring any kind of expense until we start moving the traffic.

And then Claude, just one question on the tax rate. I guess you guys have been running at about 34%, I think, for most of the year. And after adjusting for the tax adjustment this quarter, I think it was a little bit lower, not a lot lower, but abound around 32.8%. Just wondering what we should be expecting there for '07.

If you look at our -- that moves a little bit from quarter to quarter. If you look at our full-year tax rate, it's about 33.7%, and that's a good number to use for next year, give or take.

Stephanie Leichter, Lehman Brothers.

Can you please address your willingness to leverage the balance sheet further? There's been a lot of discussion among investors in the rail space recently around the potential for leverage to increase. So just wondering what your stance is on that.

We've communicated that our excess cash, we are approaching it with a balanced use of cash approach. First, dividend increases, of which you've seen a meaningful one being announced today of 29%, and second, excess cash being returned to shareholders with share buybacks if we don't have strategic or niche acquisition opportunities. Our overall goal is to increase our debt leverage gradually towards the 45% adjusted debt ratio, so we are on the way. And 2007 is a year where you should expect us to buy back more than what we actually generate in terms of free cash flow, so you should see a step-up in our leverage in 2007 towards that goal of 45% adjusted debt ratio.

Thank you. There are no further questions registered at this time. I would now like to turn the meeting back to Mr. Harrison.

Thanks so much. We're very pleased, obviously, with the quarter. We hope you are pleased, and we look forward to talking to you, some of you soon, and thank you very much, Angie, to you.

Thank you. The conference has now ended. Please disconnect your line at this time. We thank you for your participation and have a great day.