Canadian Pacific Kansas City Ltd (CP) 2003 Q2 法說會逐字稿

Good morning ladies and gentlemen. Welcome to the Canadian Pacific Railway second-quarter results conference call. These remarks may contain forward-looking information. Actual results may differ materially. The risks, uncertainties and other factors that could influence actual results are described in the company's actual -- annual report and annual information forms. I would now like to turn the meeting over to Mr. Rob Ritchie, President and Chief Executive Officer of Canadian Pacific Railways.

Thank you for joining us on the conference call this morning. We apologize for that slight delay. With me today, we have Ed Dodge, our Chief Operating Officer; Mike Waites, Chief Financial Officer; Fred Green, in charge of Marketing and Sales; and Paul Dell, responsible for Investor Relations. Before I start, I just reiterate that caution the operator outlined on slides three and four. I also ask you to pay particular attention to the fact that we use Canadian Dollars and Canadian GAAP. And there are some GAAP EPS references, the reasons for which are in that press release. So let's begin by turning to slide five. There were a lot of positives in the second quarter. First, our growth strategy is paying off. Intermodal carloads were up almost nine percent over last year, driven largely by success over the port of Vancouver into the US Midwest. Secondly, we did have a good growth in sulfur and export products with carloads up 6 percent. Thirdly, a surge in US grain helped to overcome the weakest second-quarter for Canadian grain in recent memory. Number four, our overall productivity was up almost four percent. And lastly, Mike seized the opportunity of that low interest rate environment to restructure our long-term debt.

Unfortunately, much of this good news was masked by the issues which were by-and-large beyond management control. Fuel prices costed us $22 million. The stronger Canadian dollar, which was almost 10 percent to over 70 cents US, hurt our operating income by $90 million, and pension insurance costs were up $8 million. When you factor in the weaker revenue and higher depreciation costs, our operating income dropped 13 percent to $191 million, producing an operating ratio of 79.1 percent.

Turning to the EPS on slide number 6, reported earnings included in the restructuring charge we announced on June 18 of $150 million and the foreign exchange gain on long-term debt are shown on the left. On the right, when you exclude these nonrecurring items, EPS dropped 15 cents to 55 cents per share. Slide seven looks at this in more detail. On this slide, I have attempted to isolate the real issues from all of the background noise. Working from the left, our revenues, prior to the impact of the strengthening Canadian dollar, rose almost $40 million or 17 cents per share. Positive impact of lower interest rates and lower interest expenses adds another 1 cent. Fuel price, even after we hedged 36 percent of our needs, had a negative impact of 8 cents per share. And the cost to move the additional workload is approximately $19 million or 8 cents. The 10 million (indiscernible) charge and other revenues, combined with the 13 million negative swing and other charges, drops EPS on other 9 cents per share. So we were able to limit the net effect of the rising Canadian dollar to only 2 cents, thanks to the built-in hedge of our debt structure. All in, this gets us to 61 cents per share, which leaves a rise in operating expenses at 6 cents per share as the major variants -- and Ed and Mike are going to explain that in further detail in their section. So the team will take you through these details, starting first with Fred on the topline. Over to you, Fred.

I will start on slide 9. On the revenue side, the second-quarter was strong, while reported freight revenues were up modestly, the continued strength of the Canadian dollar took a $38 million bite out of revenues compared to the second-quarter of 2002. Exclusive of foreign exchange we experienced almost five percent revenue growth for the quarter with total carload up just three percent. A turning to the major commodity highlights, bulks held their own on the strength of higher export potash market share and strong sulfur demand, which combined were up 6 percent quarter-over-quarter. As we forecasted, both Canadian grain volumes and coal were down slightly from last year. Merchandise was off compared to 2002, due to soft pulp and plastics markets. Car-loadings held their ground, but foreign exchange at $18 million was a big hit on the sector.

Intermodal strength continued in the quarter, as both the domestic and international sectors benefited from solid retail, food and consumer demand. This sector was up $24 million or 11 percent over the second-quarter of 2002. So overall, the strength of the Canadian dollar masked what was a robust growth quarter for CPR. Let's turn to slide 10 and take a look at yield. Our yield efforts were also solid for the quarter. Starting from the left, same-store prices were up over 1.5 percent. Let me give you a few examples. In US grain, we had good gains of 2 percent March 1st and 3 percent May 1st. In sulfur where price is tied to commodity value, we had double-digit quarter-over-quarter price increases. And in LPG, we took a 4 percent increase April 1st. Our fuel surcharge generated over $10 million for the quarter. Revenue per revenue ton-mile was negatively impacted by the major mix changes I discussed last quarter. However, foreign exchange was the big story, with that $38 million revenue impact I mentioned earlier, taking a 14 points off our yield numbers. Turning to slide 11, I will begin our assessment of the coming months with an update on our grain model. In Canada, moisture and crop condition are positive. The quality is obviously unknown. And hence, the size of the export program, which is the key driver for rail volumes, remains uncertain. For modeling purposes we are basing our outlook on production of 19 percent of a normal crop. Our U.S. production area is also looking good at this time. And we could see volumes very similar to the strong last half of 2002. Please note that there is a substantial foreign exchange impact on these U.S. dollar revenues. For grain combined, we see Q3 lagging 2002, but Q4 coming on strong to deliver a full-year result at or slightly above 2002. Moving to slide 12, I will provide an outlook for the remaining commodities. Please note that my comments for all segments reflect our model using $1.41 or a 71-cent dollar average exchange rate for the full year.

Beginning with coal there West Shore Export Coal Terminal will soon have both ship-loaders back in operation. The Up Valley Coal Corporation have mine inventorying production capacity. They anticipate stronger second half sales. And thus, we expect some recovery in the second half of the year. We target ending the year slightly up versus 2002. The fertilizer sector will face tougher comps in the second year -- second half of the year. We are also wary of high gas prices which could impact nitrogen sales. Fundamentals still appear solid. And as such, on a full-year basis we expect this area to be positive. On the merchandise side, we're taking a cautious perspective. In forest products we believe temporary mill closures due to soft demand and the Canadian dollar will dampen pulp and paper revenues. Lumber and panel will remain strong, based on housing starts. On the industrial product side, plastics is softening, but aggregates and energy look more positive. Auto inventories are rising. And we anticipate a slowdown in this sector.

In intermodal, we expect continued domestic growth. Imports will remain solid through the third quarter and the comps will flatten in Q4, because of the anomalies created by last year's U.S. port labor issues. Despite this, year-over-year intermodal group should achieve reasonable growth. In conclusion, foreign exchange will significantly impact the second half compares. The start of the grain comeback in Q4 will bode well as we move ahead. For the year, we see overall growth of around 4.5 percent at 2002 exchange rates, all of which will be offset by the impact of foreign exchange, assuming the 74 cent dollar. Over to you Ed.

Thanks, Fred. I'll begin my comments with a safety overview. I'm now on slide 14. On the left graft, you can see that once again we have improved upon our quarterly personal injury frequency. On the right our train accident frequency is the lowest frequency we have ever achieved. It remains the lowest in industry. Severity, unfortunately, continues to be a challenge. But we remain extremely focused on our safety initiatives. Turning to slide 15, our train miles are up 7 percent, driven by strong growth in our intermodal business. Our intermodal train miles were up 15 percent, bulk are up 5 percent, and merchandise or up 4 percent. We also have track maintenance work, most of which has to be completed prior to Q4. And we have chosen to accelerate the work, especially in those quarters where a majority of bulk traffic will move in Q4. This has increased our track log hours by 18 percent. We have added train starts and are working with our customers preemptively, but this level of activity is showing up in our metrics.

Turning to slide 16. I'd like to speak to our train weights, which were down an overall 3 percent. Using only one metric to review and understand one's operations can be misleading. Averages can also be misleading, especially if the mix of traffic has changed significantly year-over-year. This is certainly the case this year. In my daily reports, I personally reviewed train miles, train weights, and train links by 12 different train types in various quarters. In bulk, we've seen changes in our train operation patterns. More U.S. potash, sulfur, and grain trains combined with fewer Canadian grain and coal trains, have affected average bulk train weights. Merchandise weights were down, in part because less Canadian grain is available to use as fills on the these trains.

Intermodal trains, while modestly lower in weights, are actually running 1 percent longer than last year. Even with these changes, we're able to keep our fuel consumption constant with last year. So the bottom-line -- I expect train weights to increase as Canadian export grain and coal return to normal levels. We also know we can operate our intermodal trains more efficiently. I'll take you through our initiatives on the next slide. Our intermodal terminals are in great shape with the necessary capacity for growth. Last year we extended sidings north of Lake superior to increase train length eastward. We're now in the process of changing out over 5500 intermodal cars to a more productive standardized double-stack car. Over 800 cars are now on our property and we'll have 2500 delivered by year-end. And all 5500 by the end of 2004. We are going to implement a new train design. Borrowing from our experience in bulk, we will operate intermodal trains with mid-train power. This will allow us to run longer trains during winter months.

Intermodal is good business today and will be even more profitable business by year-end. I am pleased to report a 5 percent improvement in car miles per day. We're keeping the intermodal moving by turning them quickly our terminals. However, our current management team is also making big improvements in our merchandise suite. There ruthlessly culling the fleet, using our new systems to identify and then reduce, scrap, and/or sell the poor performing car types. Our active fleet was 6 percent smaller in Q2 and was down 8 percent year-to-date.

Turning to slide 19. With respect to labor productivity, no matter how you measure it, there has been a material improvements. But more importantly, I believe there's more to come. As we announced, we're reducing employee counts through more belt-pack operations, with one-man yard assignments, implementations of ties yard systems, and restraint on new hires. Finally, when Canadian grain comes on in September we'll be able to move a large percentage on our present train service. I'm confident that these actions and increase in volumes -- that we'll see further productivity improvements. Now I'll turn it over to Mike Waites.

Thanks, Ed. I want to take a few minutes to tie up the balance of the income statement, including getting to adjusted income from reported net income. Then I'll get into the expense discussion. Total revenues were down $8 million or 1 percent to $914 million. Other revenues were down $10 million to $39 million. But on the year-to-date basis we're off just $2 million from last year. As I've said before, we do see variations in signing differences in this category of revenues which includes switching, container storage and handling charges, real estate income, and so on. Expenses before the special charge rose $20 million to $723 million, resulting in a $28 million decline in operating income. Other charges totaled $8 million. And I would expect us to average in the 5 to $10 million range per quarter going forward, compared to $5 million credit last year.

Interest expense fell by $8 million to $54 million, benefiting from lower cost financing, as well as from foreign exchange gains. By design, in excess of 75 percent of our debt is U.S. dollar-denominated which provides a partial hedge to the strengthening Canadian Dollar on an EPS basis. Tax expense equates to roughly a 32 percent effective rate. That's close to where we should be for this time of the year for the full-year average. So, adjusted net income totaled $87 million down from $111 million last year. As in the past, we have excluded in our operational discussions the foreign exchange impact on the long-term debt. This quarter a gain of $92 million after-tax, with the continued strength in the Canadian Dollar. We exclude this -- essentially this gain is unrealized and on non-cash in nature. And we have a special charge this quarter totaling $250 million which we spoke to you about in June.

Turning to the next slide on selected expense items, comp and benefits expense was flat between quarters. But there were a number of directionally offsetting items. We saw inflationary increases in comp as well as in health and welfare. And pension expenses of $11 million or about 4 percent. That's consistent what we said regarding expected unit rate increases, trending up toward the 5 percent range. Also, additional volumes drove another $9 million increase with higher field operations and crew expenses as train models rose 7 percent. Offsetting these items were two factors. First, was the foreign exchange benefit of $8 million. And second, there was a reduction in variable incentive comp expense. This quarter, we reversed incentive comp accrued in the first quarter of 2003 as year-to-date we're not where we need to be to earn the bonus incentive. Last year, we had recorded a normal charge of $8 million in the second quarter for incentive comp.

Fuel expense rose $15 million, notwithstanding a $6 million benefit from foreign exchange, driven by a $22 million increase in price and partially offset by a $3 million hedging gain. Materials expense rose $6 million, in part driven by increased locomotive servicing costs for the increase in the train miles. Purchase services and other expenses were down $3 million as increased casualty and insurance expense was offset by broad-based expense reduction efforts, more joint facility recoveries, and foreign exchange benefits of $8 million.

This next chart recaps the $51 million expense increase pre-foreign exchange, which we've isolated on the right-hand side. Key highlights -- fuel price caused a $19 million increase, higher workload drove another $19 million increase, depreciation was up $10 million, and pension and insurance were up collectively $8 million. While we have a solid revenue story on the quarter, we can do better in terms of expense performance, while pensions, insurance, and fuel price were largely beyond our control, we were looking for more productivity improvements to flow to the bottom-line. Consequently, we have taken a number of actions, including slashing discretionary expenses, implementing -- some time ago -- a hiring freeze. And, obviously, we spoke to in June about accelerating and increasing our staff reduction efforts. Going forward, we're looking for more productivity with respect to the existing traffic mix as well as a return to increased bulk volumes.

This next panel illustrates the foreign exchange impact and summarizes our activities on the debt front -- Rob briefly alluded to this. The key point to note is that foreign exchange has significant impact on individual lines. But at the end of the day, the overall impact on EPS is fairly small -- 2 cents per share, even for significant improvements in the exchange rate which we have seen more recently. One key reason is that the debt program has been specifically designed to provide a hedge at the EPS level, offsetting about half of the impact this quarter. In addition, we continue to take advantage of what we believe to be a very attractive interest rate. We undertook a $350 million Canadian medium-term note financing late in the quarter. The funds to flow in the third quarter -- in fact they did flow in early July. This issue was attractively priced at 4.9 percent coupon at a spread of (indiscernible) of 90 basis points. You may also recall that late in March, we issued a U.S. $250,000,000 30-year debenture at a very attractive 5.75 percent.

Looking ahead, we expect second-half EPS to be roughly equal to the second half of last year. That will be weighted to the fourth quarter. This is notwithstanding higher fuel prices and a stronger Canadian dollar than last year. We have approximately 28 percent of our fuel requirements hedged on the second half -- about $22.50 per barrel. And we've provided additional details in the appendix to this presentation for you. We're modeling with a West Texas In the Media estimate of $28.50 a barrel for the last half of the year. We've also assumed a second half dollar in the 74 cent range. That will translate into a 71 cent dollar for the year. I should point out that if that is the case, we will have the result of reducing our full-year revenues by some $190 million. To tie things up, we're looking to have capital expenditures coming in at the $700 million range. That concludes my comments. Rob, back to you.

Thanks, let me summarize. Q2 is behind us. The quarter that was characterized by strong intermodal growth, aggressive maintenance away program, a fast rising Canadian dollar and continuing higher fuel prices. As expected, grain traffic was at an all-time low. But we responded and action is underway and summarized in the top of the slide. Going forward, grain is looking very good for Q4 and for ' 04. And the growth strategy is delivering on the topline. Externally, it looks like fuel prices are going to remain higher than we originally thought -- in the 28 to $29 range and the Canadian dollar appears to have ended its climb -- it's stabilized north of 70 cents. Despite these challenges, we should be able to match last year's second-half performance in '03, as Mike said. We believe that Canadian Pacific is positioned well. The worst of a two-year drought is behind us. We're taking steps to have the right (indiscernible) and resources in-place to handle the new bulk business. So, I'm optimistic and continue to believe that over the next 18 months the North American economy will strengthen, fuel prices will moderate, and the rail industry will have a strong month ahead. With that, I will close and now open the floor for questions. And operator, if you could issue the instructions to our guests on the phone lines -- on the queuing protocol. We'll start the Q&A thank you.

(CALLER INSTRUCTIONS). Thomas Wadewitz, Bear Stearns.

Good morning everybody. A couple of questions for you here. First, maybe for Mike on the guidance -- could you give us a sense of the mix of what you expect for third quarter and fourth-quarter? And it seems like you should be seeing a pretty sharp upturn in fourth-quarter, just looking at the grain and also possibly the headcount reductions kicking in. Can you give us any further color on that? It kind of the sounds like conservative guidance.

Well, I think it's fair to say, Tom -- I think it's objective and sober guidance. What I would expect -- third-quarter maybe to be slightly weak or off on the comps from last third-quarter. As you correctly point out, with a return to the grain crop and the volumes we'll see there, as well as in the fourth quarter -- we will begin to see, of course, the full impact of the staff reduction programs, as they come in at end of 2003. Fourth-quarter should be a strong comp compared to the fourth quarter last year.

And maybe for Ed -- you mentioned a couple of things you're doing which should help the system to run a bit better. I'm wondering -- at what point would you expect the velocity numbers to look better in the system? And when specifically will the extra maintenance work be completed? Is that in third quarter or do we wait until the fourth quarter to do -- to see that?

I think you got the two points -- the velocity will start to improve as the work locks come off some of our major corridors. And they're scheduled to come off in early in Q4 in October. I think the Q4 data velocity will improve significantly.

Last question. On the Canadian (technical difficulty) yesterday I guess (indiscernible) talked about 100 percent of a normal car (indiscernible) You're talking about 90 percent today. Can you give us any sense -- is this also a little bit conservative? Is there upside to what you're saying on the 90 percent of normal?

I'll let Fred do that.

Tom, I won't comment. Seeing as your own perspectives. What we see is, -- we've talked about numbers of 49 million as the average over five or -- extended period of time. The numbers seem to be coming in, in the 44 range, which is right in around 90 percent. It may be on the upside. That would be good news. We're obviously preparing ourselves. If there is upside, we will be equipped to participate in that. However, I would like to take a moment and make sure people understand that it is not just production. It's also the export tonnage. And so while it may be produced -- until such time as we know the quality of the crop. Until such time as we know the price of the grain -- whether the farmers of the grain companies will choose to hold more in storage -- that inventory flux is uncertain at this point in time. We're going to plan financially for 90 percent obviously. Our associates on the operating side are equipping themselves to participate, if there is an upside market there as well.

Just to, Tom, put a little more color on what Fred said -- it's got to be sold. We're a long way away from harvest. So -- and as you saw last year, the Canadian grain production and the United States -- is not uniform across the (indiscernible) areas. All of those things, I think, would just encourage one to be a little more conservative, until later on in the year.

Okay, great. Thank you for the time.

James David, Scotia Capital.

Good morning. I don't want to belabor the grain thing -- it is a compelling element of the real situation in Canada right now. If I look at agriculture -- Canada's last report on grains and oil seeds, they were talking about an '03, '04 export growth of about 53 percent -- I think they are talking about 23 million tons. And it's clear that obviously goes over several quarters. Is that roughly parallel -- your own thinking, in terms of how you talk about planning for asset requirements, etc.?

James, we are in the zone. We would be in the high-21s, 22s. Obviously, with upside protection on capacity, should that market materialize. And I would again note, though, that that total export for a full crop year is going to be distributed between Q4 and next year. And historically, what one finds is that when export volumes escalate, you tend to see them with a U.S. program -- in other words a Canada to U.S. program -- you see them with a winter wheat program, which runs generally in January and February and runs export over the quarter with Quebec. Those are capacities, obviously, that we would be equipped to participate in. And we are just trying to calibrate ourselves in the 22 range -- 21 -- high-21s, 22 range. And when these estimates from the I-Canada (ph) and the Wheat Board start to settle down -- because you're monitoring, you'll see them up and down, a little bit like a toilet seat over the last month. We'll lock-in once they lock in.

Okay perfect. Second question -- in reference to intermodal port of Montreal -- have you seen any part of (indiscernible) exercise out east -- one of the discussions they have had, very openly, was the possibility of de-marketing some of their international customers. And presumably the alternate entry point would be port of Montreal versus Halifax. Have you seen any shift in business from Halifax to Montreal in the last quarter that you otherwise did not anticipate?

I don't think there was anything we did not anticipate. There has been business moving simply because, I think, the port of Montreal to the Midwest has proven to be the dominant port. The numbers dictate that. There were some new consortiums that moved over the course of the last year to make Montreal a port of call. But certainly, our growth numbers reflect really more organic growth with the existing clientele who are proving to be quite successful in the corridor. So, I guess the short answer is no.

Kenneth Hoexter, Merrill Lynch.

Hi. Just a follow-up on Tom's earlier question -- good morning everyone. On the velocity slowing down -- is some of that still related to the strike that is going on with controllers? And is there any kind of discussion still going on with that union?

First of all -- absolutely we're not impacted by the rail traffic controllers being on strike. We have had a few -- some of our intermodal terminals had two-hour pickets. But the actual train operations are working extremely well, as by the volumes that we have moved. There was a vote, whether to ratify the agreement or not. And that occurred yesterday. And it was turned down by the union. It was 65 percent, I think, voted against it. We are still on strike. It could be an indefinite period of time. I have got to say that I'm really proud of the management have been able to fill in. And it is running very, very smoothly.

Ed, just to clarify -- the slowing in velocity we're seeing on a weekly basis -- just a little bit down year-over-year. That is not related to the strike. Its related to, I think you were saying, some other train blocks?

Absolutely correct. It is not related to the strike. It's related to work blocks. And just the 7 percent increase in train miles.

Okay. And Fred, did I catch it -- right before -- you were in your forecasts kind of going forward, when you're looking at the second half of the year, you're holding this low 70-cent, 71-cent Canadian Dollar for the rest of the year?

Ken, I think maybe the right way to look at that is, we have model something. And between ourselves and our finance associates, we have landed on that number. And obviously if the market unfolds differently, we all know the sensitivities to what it means. But yes, the model was a 71-cent -- for the full-year.

Great. Thanks a lot for the help

Scott Flower, Smith Barney

Good morning all. Just a couple of quick questions. One, you did not (indiscernible) but I have just been curious about an update. I know it's not huge, but it's an interesting initiative. Could you update us perhaps, Fred, on the Expressway Intermodal initiative? And where that is? And how it is progressing?

Scott, Expressway grew again this quarter. I think it was 7.5 to 8 percent. We continue to try and leverage that -- the two corridors we have up and running now -- Montreal to Toronto, Toronto to Detroit. Our game plan was now to add a series of platforms and move to greater and greater productivity with each of those trains. So I guess the status is, it's up and running. We're not introducing any new quarters at this time. But what we're trying to do is kind of optimize the corridors we have up and running. And we continue to grow the business.

I guess, a couple of other questions for you. One would be, with a the weakening in the U.S. dollar and obviously the strengthen in the Canadian dollar -- I guess two things. One, do you see any lag impact -- actually -- on the product producers, I guess, particularly intermodal -- where a certain proportion, obviously, of your intermodal international business really is coming into U.S. Midwest. And so, obviously, with some of those shifts in currencies, I'm wondering whether that's causing any thoughts on the parts of the steam-ship companies as to how they land their boxes? And then maybe more broadly -- in forest products, metals, or autos -- is there a lagging effect in terms of some of the impacts on volumes that maybe more prominent as we look third-quarter, fourth-quarter, then perhaps what you have seen so far, with the sharp appreciation of the Canadian dollar in Q2?

As far as the appreciation or the U.S. dollar declining in value against other currencies -- the international side has shown absolutely no signs of an impact. If anything, that business, both West and East Coast, is very strong -- particularly strong off the West Coast including U.S. destined product as well as Canadian destined product. From a forest products side, I have been fairly consistent, I believe, over the quarters, saying the area I am most uncertain about is the ability of the Canadian pulp and paper producers -- particularly the paper producers -- to be successful as the dollar escalates. We're not getting any specific feedback from people about a major crisis on their hands. But you are seeing a series of mill shutdowns -- some temporary, some a bit more permanent. And I would remain cautious -- I am cautious -- as I said in my words, about whether the forestry products industry will remain -- will recover the growth that it lost several quarters ago. The auto side is softening for reasons I think everyone understands. At this point the assessment is that the Canadian auto complexes, despite the change in dollars, will remain as competitive as they were -- relatively more competitive. So that they will enable themselves to continue to participate in production. But as the whole business goes down, the Canadian volumes will probably decline as well.

One last informational. What was the rate increase on the Canadian regulated grain moves? That usually comes through in August, and I'm just curious from an informational perspective. What was that?

Last year's increase was 4 percent. This year's adjustment, if I recall correctly, was a minus 1 percent. But I want to make it very clear, Scott, and everyone on the call -- that is the revenue path adjustment. Our challenge, as I mentioned in Q1 last year, is now to figure out how to steer -- of our portfolio or our book of business -- how to steer as much as possible of that business into products that are most efficient. So, our pricing program that is out on the street today encourages shuttle trains, it encourages 100-car trains, encourages 50-car trains. And obviously, as a result of that, while the overall price may not end up going up dramatically, across the board you will see us moving with the most efficient suite of products we can possibly get.

(CALLER INSTRUCTIONS) Christopher Leshock, Morgan Stanley.

Good morning gentlemen. It's Chris Leschack (ph) here. I've got kind of a follow up here for Mike Waites. Regarding the prior operating ratio target for 2004. And there had been 73 OR number. And obviously there has been a lot of change here in the last few months between the higher oil assumptions and the stronger Canadian Dollar. Could you give us kind of your update, based on where we are with those variables? Where do you think you could see the OR going for '04?

Chris, it's still premature for us to do that. Let me say a couple of things. Number one, we're certainly committed t are aspirational level, to getting the 73 percent. And you may recall that when we came with that number and the time of the spinoff that was predicated on a $22 U.S. West Texas intermediate number. So, if you look at crude prices today -- they're up around 30, 31, $32 -- illustratively $10 above where we were back then. And as we said before, a buck a barrel on the U.S. dollar prices -- $10 million pre-tax for us. Translate that at two and change points on the operating ratio. So certainly we still have that aspirational level. It's early, in terms of '04. Just giving the uncertainties around specifically the crude price, we want to see what we have in the way of grain. And we're also getting the impact of the foreign exchange at the operating income level. And of course that translates to operating ratio. So we'll come back to you later in the year. But a key point is we're still committed to reaching that number as an aspirational level. There's things moving around on us. And that's what management's job is -- to take into those into account those things that are moving. And we'll continue to drive toward that number. I'll just comment on the macro level to. We have had a surge of intermodal traffic which is less profitable, as everyone knows in the fall. We took it on. And that churn at that -- as that pointed out -- an increase in train miles. We are committed to smoothing out. We took it on -- our business model is one where we have a very strong business producing goods at margin and then we fill the the capacity up with intermodal. So when the bulk comes back with the intermodal there is smoothed out -- we've got a good business model now. As Mike said, we've got to work through those clips on challenges like fuel, like insurance. But I'm confident this company can do it. And it's not got the wherewithal to move itself into the 73 range, where I want to be.

Great, as the grain volumes come back in the fourth-quarter and into '04, how much of the incremental volumes do you think will move on existing trains versus new trains or even additional shuttle trains?

Ed will do that one.

The additional volumes -- there would be two ports that they would be directed to -- the port of Thunder Bay (ph) and the port of Vancouver. So it depends where the Wheat Board will direct those. But, let me give you an illustration. If for instance we have 1800 cars flowing to Vancouver every week, in I expect 600 to 700 of those cars to move on existing train service. On the other hand, if it's moving to Thunder Bay and we have say, 1800, we will probably only move about 500 on existing train service -- where we have less volume flowing through that corridor.

Great. If I could just have one last question here for Fred. Your competitor next door up there is in the second stages of a new intermodal excellence program, where they're attempting to modify some of the shipper behaviors. And I was just wondering if you have any anecdotal comments -- any comments from shippers -- on how you perceive that program? One, are you sensing push back from the customers in certain areas? Are you seeing it being beneficial? And lastly, are you seeing it -- potentially -- some things where you might adopt some of their practices?

I'd probably look at it a little differently, Chris. I'd probably suggest that we're really pleased to see them adopting a lot of our practices. The work that we've done in the past to establish credibility and discipline with this industry is being often -- it suits everybody's purposes to go down the path of being very disciplined in our execution. We're very satisfied with the relationships we have. I can't comment too much on feedback with regard to what the other guys are doing. But directionally, we are -- it appears -- coming into alignment as they migrate their path to represent a lot of what we've been doing for a longtime. There is a lot of churn in the competitive marketplace. There is a lot of matter out there -- people trying to get better rates. And we have, as Fred said, partnerships with secure clients. And that's what we are pushing -- improving our service. And so we're not trying to go out there and disrupt the marketplace, as Fred said. We like to see stability in intermodal. There are capacity issues in the whole railway industry and (indiscernible) addressing them in a way that they feel is effective. And as Fred said, we've been working on our own models. Ed took you though how we're going to improve intermodal for ourselves with long trains, better slot utilizations through standardized heavy cars. And we're bringing a new program in intermodal terminals which will allow us to do some seasonal pricing. So all of those things -- each company, no matter who it is in the business has their own business models. Ours works for us. We're pursuing it. And we're working very diligently to make sure the shippers pay for the value that intermodal delivers them.

Music to my ears. Thank you.

Horst Hueniken, West Wind Partners.

Good morning. You had disclosed several weeks ago that you're considering a number of options for the Delaware and Hudson operations. Has your thinking been refined since the last conference call -- in particular with respect to what might be done with those operations? The timing of any such actions? And ultimately what the potential EPS impact might be?

Obviously, of course when we made the decision to move ahead, we had to disclose it. So that was when the gun went off. When that decision was made that was June 20. That was not very long ago. We are right at the beginning stages of it. I can say there is a lot of interest in the property. And obviously those negotiations are very confidential. And I'm still confident on the timing that Mike gave which would be we would have good direction termination hopefully at the end of this year. So we are on track with credible people -- potential partners. So what it would do, as Mike said, if we design it in a manner -- that 100 percent operating ratio of Delaware was not impacting CP that would be almost a full point on the operating range anyway. So we are determined to find a solution for the Delaware-Hudson that will protect the customer, protect the employees, and protect CP's traffic base that we have on our business that originates and terminates in Delaware, and protect our current activity -- particularly with MS and CSX. Those are our goals. And we are on-stream to accomplish them. I can't take anything else specifically -- more than that.

Robert Fay, Kanekoi Capital.

Thank you. A couple questions, Fred. Can you talk a little bit about the yield on the grain business? It was down 7 percent. You said some of it is that you're encouraging more cost-efficient moves. Some of it would be the change in mix between Canada and the US. Can you give us some flavor between the two of them?

Bob, probably the biggest driver in that base is going to be the substantial number of U.S. grain shuttle trains. As the Canadian grain business has declined over the last couple of quarters the U.S. grain business has really held its own -- in fact has done quite well. And that has -- puts us in the the Minnesota and North Dakota export business, as far as soybeans is concerned and second-stream as I mentioned, I think, on Q1, with the drought in Canada and the lack of available feed barley, there has been a very, very substantial move of shuttle trains of corn from the Midwest property that we operate into Alberta for the feed lots. So the two big drivers would be the ones I have just mentioned. And that is making a very substantial difference in the type of line-haul activity we have with grain.

Another question I have -- it is regarding, generally your bulks, including coal as well. Given the fall in the U.S. dollar, is that going to put some additional yield pressure on you to keep your customers competitive in export markets?

At this point in time, we have not experienced that. We have certainly had dialogue with all of our associates -- trying to make sure that we understand where their markets are going. But as far as price impact, I would say it this point no. And I don't anticipate any in the foreseeable future.

Basically you would be able to hold your current rates?

We believe so.

Last question, on the fuel -- for Mike Waites. The fuel hedge write-down for 2004 -- you don't have any hedge in-place? Or what is the hedging that you've got in place for '04.

We still have a hedge in-place in '04, Bob. And it's similar to what we have had in the past, other than the percentages stepped down a little bit. It's around 15 to 18 percent on the base part of the hedge. And I gave the numbers they are pretty consistent -- 21, $22. And that just reflects our hedging policy -- we can go out five years. But it's a declining rate. Obviously, we have not taken forward positions, given what is going on with crude prices at this point in time. When we see those opportunities, we will. We'll get some benefit from the hedge again next year. Not as much, though, as this year. And that is assuming the prices stay where they are. As Rob said, we would hope to see those come down at some point.

You are basically giving the hedge you got right now. You're very sensitive to current price in the market?

Increasingly so. But I would say an 80-20 rule wouldn't be bad in round numbers.

Okay. Thank you.

Jeff Watson, CIBC World Markets.

Thanks very much. I only have a very brief question. It's about the gallons of fuel consumed per thousand GTM. I noticed it hasn't really changed much -- with 1.24 this quarter, unchanged from last year. Should we be expecting this to decline at all in the coming quarters?

Yes. It will decline as the bulk comes on. And so -- when our new locomotives cut in. But we have been pretty ruthless about looking at the fuel consumption and how we operate the trains with the lighter trains that we've been having, which are actually consume more fuel per unit. So I expected to come down in the Q4.

Thanks very much.

I should add that when I say come down -- it's going to improve. And we -- it's our new it's the AC locomotives we talked about. It's a new locomotives we talked about. It's how the number of the single units that we run -- a whole host of activities that we have in our fuel conservation.

Lorraine Gloster, Octagon Capital.

Yes. Could you talk a little bit about how much capacity you have available with bulk coming on -- coming back. And given the high demand that you have with Intermodal, does that mean that you'll have to add any more locomotives? Or what capacity to you have available to accommodate those markets?

Okay. First of all, with regard to locomotives, we have taken early delivery of 35 locomotives that were scheduled to come on-stream in January and they are going to come on-stream in September of this year. I talked to you about the -- with Intermodal growth -- the additional cars that we are taking -- the double stacks. And they are going to give us some more capacity. In fact we think we'll get 30 percent more capacity -- more containers per train, than we were with existing ones. So that's going to give us some capacity there. And on top of that, with the bulk coming back, we have taken steps to lease another 2500 covered hoppers for periods ranging from one to four years out. So we're making -- getting our fleet sized for grain increase. We are taking steps. We've hired -- are hiring a lot of crews, (indiscernible) in various corridors to increase our capacity there. So the answer is yes. We're moving up our capacity on all fronts. And that's why I referred to our work programs. We want to get those done so when we get to the fourth quarter we'll have more time to operate our trains in those corridors.

Would you see any type of culling of any -- maybe not as profitable business -- if bulk is coming back?

Well Fred and his team worked with the operations team as to looking at the trade-offs that we can to get our workloads smoothing down. And so if there's some business that we can move. In other words, we'll do that in business that Fred feels is short-term in nature and maybe we don't want to move it. He'll make a decision there. It's a pretty dynamic trade-off between ops and marketing.

I just have one more question. On your ties program -- I know that was put on hold because of the controllers strike. Are you now looking at implementing that next year? What is the time-line for ties now?

As we speak we have our pilot project running out of Edmonton. And so we're getting some good learning's from that and making some changes -- just things -- when you implement a new program you find some things that you weren't expecting. So are getting that. It's coming out pretty well. If the strike continues, our general rollout will be deferred because many of the people that were working on that or were involved in that project are now filling in for or our (indiscernible) dispatching trains. I don't know how long it's going to be deferred -- depends on how long the strike goes on.

Chris Voncarp, Stage Asset Management.

Hi. Could you just give me some color on your capital spending? How much is going to go into rolling stock? And in general, the outlook for CapEx on rolling stock please?

The overall capital program is $700 million and it's what where banking for this year. We talked earlier to you about 700 to 735. As you know, a lot of that capital stock -- certainly on cars we acquire that equipment via term leases. We can acquire it with capital. But the principal component of the capital program for rolling stock is locomotives. And this year that would be approximately $125 million type number. And it gets back to what we're talking about on equipment and locomotives. We acquired 46 in the first quarter of this year. And you'll see us on an ongoing basis add new locomotives to the fleet if we have the volume. And that's a normal part of what we have to do in terms of a good problem I have is good traffic. On the car front and a point of clarity is, the Intermodal cars that we were speaking about earlier -- those are on an arrangement with TTX which is basically a per diem leasing arrangement. And that will not represent a step change in the overall capital spend year-on-year. Okay operator, if we could just finished off then, with media questions. Then we'll wrap up the conference call.

If you are from the media community. Please press star one if you have a question. Our first question is from Monica Gutsee, Dow Jones News.

Yes, good morning. I just wanted to confirm that you're now projecting 90 percent of a normal average cup for this year. And I want to confirm that is up from what you said in the first quarter which was 85 percent of that average cup.

That is correct Monica.

In the first quarter you said that if it was 85 percent, that would have a positive impact I believe of 35 million in the fourth quarter? So I'm just wondering what the impact you foresee for the fourth quarter is -- if it is a 90 percent?

You are correct in the 35 million assessment. You've got me. I can't do math in my head fast enough -- I think mathematically it's proportionate. So up another five points -- sorry I'm not being very helpful. I just don't have that number at the top of my head.

Rich Curren, Bloomberg News.

Hi. I guess Rob, in the news release, you mentioned the locomotives and the new cars. Is this just the early delivery? Or are you actually adding to orders?

Early -- is the situation Reg.

In terms of the operating ratio -- if you exclude the D&H and the impact of fuel, does it drop back to about what it was a year ago? Would that be roughly where you would be at?

As we said, Rich, the D&H is about a point on the operating ratio. It's basically a breakeven operation. And therefore you don't have a big impact on operating income, obviously, or EPS. When you take into account fuel, you have to pick your fuel price number and crude price number for the full year. As we alluded to earlier, if you're looking at $31-32 type (indiscernible) it's two points and change. So combine 3 and a bit points and I think you get pretty close year-on-year.

Is it then -- there are many people who are saying you are just not going to see a return to 20 and 21 WTI. Is the 73 number going to have to be abandoned, do you think?

No. The 73 I said was a waypoint anyway. It is -- we will continue to work this franchise to bring ourselves down to that level. As I continually said, that's the level we need to be to produce the free cash that gives this company the alternatives I want it to have. So we will continue to work it. You've seen us change our game plan to accommodate those bumps in the road. We been saying whether, fuel, insurance, pension. We'll get them behind us. And as I said, we settled the Intermodal business down, which really surged on us. And we get the bulk in there working in the way Ed described how the marketing and office people work, this Company's got interesting profitable years ahead of it.

Great. Thanks very much.

Operator if we could have last question and I think we run out of time.

Paul Riguerra, Financial Post.

Good morning. Actually, it was about the operating ratio, so Mr. Kearn (ph) kind of already answered it. I was just wanting to be clear -- was it 79 percent for the quarter?

In terms of the quarter?

Yes.

Yes it was.

I also want to confirm housekeeping. Who was the second -- I kind of lost track -- who was the second person that spoke after Mr. Ritchie.

That was set Fred Green VP of Marketing.

Thank you very kindly.

Right. Okay, ladies and gentlemen thank you. Enjoy your summer. We've got some work to do. we are looking forward to a good grain harvest, as Fred said. And we'll talk to you at the end of the third. Goodbye and good day.

(CONFERENCE CALL CONCLUDED)