Canadian Pacific Kansas City Ltd (CP) 2012 Q2 法說會逐字稿

Good morning. My name is Sarah and I will be your conference operator today. At this time I would like to welcome everyone to Canadian Pacific's second-quarter 2012 conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks there will be a question-and-answer session. (Operator Instructions)

Thank you. Ms. Weiss, you may begin your conference.

Thank you, Sarah. Good morning and thanks for joining us. The presenters today will be Hunter Harrison, our President and CEO; Jane O'Hagan, EVP and Chief Marketing Officer; Mike Franczak, EVP and Chief Operating Officer; and Kathryn McQuade, our EVP and Chief Financial Officer. Also joining us on the call today is Brian Grassby, our Senior Vice President of Finance.

The slides accompanying today's teleconference are available on our website. Before we get started, let me remind you that this presentation contains forward-looking information. Actual results may differ materially. The risk, uncertainties, and other factors that could influence actual results are described on slide 2 and 3 in the press release and in the MD&A filed with Canadian and US securities regulators. Please read carefully, as these assumptions could change throughout the year.

All dollars quoted in the presentation are Canadian unless otherwise stated. This presentation also contains non-GAAP measures; please read slide 4.

Finally, when we do go to Q&A, in the interest of time and in fairness to your peers I would ask you to limit yourself to one question. If we don't get to everyone queued up on the call here today, Investor Relations will be happy to follow up and address any outstanding questions you have.

Here then is our President and CEO, Mr. Hunter Harrison.

Thanks, Sarah. Thanks, Janet, and -- well, I'm back. I as most of you know joined the organization and was elected by the Board of Directors at the end of the second quarter, so I can't take any credit for the quarter performance. But I think it could certainly be described as a pretty hectic quarter.

There were a lot of things to divert management's attention. When you are trying to run a railroad and at the same time have a proxy contest and at the same time a work stoppage, that presents a lot of challenges.

But the first three or four weeks here have been a lot of fun and sun in Calgary. I know it is probably not going to stay that way, but I have been very -- my confidence has been bolstered even further that there is a lot of talent here in this organization. It is certainly not lacking for talent. We have got the ability, I think, and I feel even stronger than I did prior to arrival in Calgary that we can accomplish the type of numbers that we talked about during that proxy contest.

I do want to take a moment if I could this morning to -- there's a lot of you on the call that I have worked with for many years and also worked close with me during this last six or eight weeks of the proxy issue. And I appreciate the confidence that you have shown in this model that has been relatively successful, and I look forward to it creating more success and more shareholder value at CP.

Now it is time I think we have all agreed to turn the page, which we have done. This quarter is behind us. We return to hopefully normal times and focus on serving customers and controlling costs and creating shareholder value, and that is what this organization is equipped to do very well.

So, there is a lot of moving parts that I am sure you have seen in the press release already and looked at. But as a result, Jane and Kathryn and Michael are going to try to explain further some of the issues that they had to deal with. So, with that, let me turn it over to Jane.

Thank you, Hunter, and good morning, everyone. Thanks, Hunter. Our strategy for sustained profitable growth continues to deliver value.

I'm pleased with our results especially given the nine-day strike in the quarter. We quickly returned to pre-strike levels and protected our market share.

Our market initiatives are delivering growth and value. Building on the successful execution of our scheduled service in Canadian grain this crop year, we are rolling out the program on our US property effective August 1.

In Intermodal, we have recovered our market share in our core segments and we are delivering on our strategic initiatives. And in energy, our strategy has delivered four consecutive quarters of double-digit revenue growth.

Continuous improvements in service are translating into a more valuable product for our customers, allowing us to secure full value for our services and drive profitable revenue growth.

Now let me move to the Q2 highlights and expectations for the second half of 2012. So, starting with slide 7, CP delivered 8% revenue growth on the quarter. Price and mix accounted for 5% of the revenue gain; fuel surcharge was 1%; and the FX impact was the remaining 2%. Revenue ton-miles were up 1% and carloads were flat, due to the strike volume impacts; and Kathryn will talk to this in a few minutes.

For the second quarter of 2012, CP again delivered on our price renewal target of 3% to 4%, and we continue to target inflation-plus pricing for the rest of 2012. For the remainder of my comments I will speak to currency adjusted revenues.

So, moving to bulk. Starting with CP's grain franchise, grain revenues and units were down 11% and 19%, respectively, over Q2 2011 due to a number of factors. While maize labor disruption impacted short-term Canadian grain volumes, the major factor was, as I spoke to last quarter, the continued weak export demand for US grains and the poor US spring wheat crop in North Dakota. A greater decline in short-haul movements accounted for the smaller year-over-year decrease of revenues versus carloads.

Looking forward, the Canadian Transportation Agency announced a 9.5% increase to the maximum revenue entitlement for export grain for the coming crop year, effective August 1. Remember, this increase affects about 35% of our grain volumes. We use seasonal pricing throughout the year, and thus you can expect our reported price to show some variation by quarter and to see the full realization of the increase by the end of the crop year.

For this coming crop year, Statistics Canada is forecasting a solid recovery in seeded acres for Western Canada, including record canola seeding for the sixth consecutive year. Weather, especially moisture levels, have been favorable to date.

On the US side, we have all read about the extreme heat in major production areas. Fortunately, crop-growing conditions in CP's US draw territory are relatively positive. We're watching progress as we move closer to the harvest, but it is too early for me to predict the outcome of the crop at this time.

Finally, we had strong volumes particularly in Canada throughout all of Q3 and Q4 in 2011. This year's country grain stocks are quite low and we'll likely see weaker shipments until the harvest. For grain overall we're expecting low single-digit year-over-year growth in the second half of the year.

So, moving to sulfur and fertilizer on slide 9. In total, the combined potash, fertilizer, and sulfur portfolio was down 2% in revenues and flat in volumes.

Canpotex saw Asian buyers enter the potash market in Q2, and we responded by moving record export potash volumes to offset the weak first quarter. The strong export demand was offset by a somewhat disappointing domestic fertilizer demand and short-term sulfur and fertilizer production outages.

I will note that the global economic situation is translating into some uncertainty in international potash markets for the second half of 2012. And we are watching closely, as weaker US corn crop production may impact the need for nutrient replenishment this fall. We are modeling second-half 2012 fertilizer and sulfur volumes to be slightly lower than second half of 2011.

I'll remind you that going forward, that our new Canpotex contract came into effect at the first of this month, and we will be handling a large majority of Canpotex's potash shipments.

So moving to coal on slide 10. Coal revenues and units were up 1% versus Q2 2011. Volumes on the quarter were impacted by the strike; and we're recovering these, along with current production, in the second half.

CP has a strong coal franchise dominated by high-quality metallurgical coal destined to export markets. Teck continues to produce well and we are modeling volumes based on their forecasts.

We are seeing some shifts in the mix impacting revenue per car due to the strength of our US coal franchise and a higher proportion than last year of Teck volumes moving to the West Coast versus the longer-haul, higher revenue per car Eastern volumes. We continue to collaboratively improve the supply chain and are realizing the benefits of our capacity expansion program. We now have about 50% of the trains operating in the West Corridor in 152-car sets; and as I said previously, we expect to have up to 80% of the sets at the longer length by the end of the year.

The continued weakness in the North American domestic thermal coal markets continues to provide opportunity to move PRB coal into export markets off the West Coast. We're expecting volumes to continue through the remainder of the year, but the volume levels may vary, given economic uncertainty, as this is opportunistic business. So overall, we expect second half of 2012 to deliver modest growth over 2011.

So turning to slide 11, Intermodal revenue grew 2% on flat revenue volume versus Q2 2011. CP's service in the first half of 2012 has remained strong and we have rebuilt confidence with our key customers.

As I mentioned last quarter, each Intermodal franchise is different. We have recovered market share in our core markets, as evidenced by Intermodal units trending very favorably before and after the strike.

Our domestic portfolio has continued to grow, and we see strength in our key segments; and we are driving efficiencies into the supply chain. In international, strong West Coast volume was partially offset by Port of Montreal softness caused by European economic weakness.

Looking forward, we are delivering on our strategic initiatives and are on track to complete our new Regina terminal by the end of this year. We are expecting a modest fall peak, and we expect to deliver GDP-plus growth in Intermodal for the second half of the year.

So, moving to merchandise on slide 12. Merchandise delivered a fourth consecutive quarter of double-digit revenue growth, driven by energy and ongoing automotive recovery. Revenues are up 26% and units are up 13% versus Q2 2011.

So, let me speak to each of these markets. In the energy and industrial products segment, revenues and units are up 28% and 18%, respectively, as we continue to drive value from our crude-by-rail model and extend it to Canadian originations of midgrade and heavy crude. Overall, our crude volumes continue to grow at a pace that exceeds our earlier expectations.

As I said, we had expected to grow the crude-by-rail market from 13,000 carloads in 2011 to 70,000 carloads by 2014. But based on the momentum we have in making our markets, we now expect to reach that run rate a year earlier.

We are also developing a strong network to handle frack sand, pipe, and construction materials, necessary inputs for oil and gas shale production, with a particular focus on our sand franchise. As we build our sand business we are using the same approach as we used in crude -- that of building a network of strong origins and destinations.

We are leveraging the strength of our network to establish key customer production facilities on our lines and in locations that position them to provide very large volumes of high-quality sand efficiently to the key shale regions. With the recent announcements from Unimin, US Silica, and Smart Sand, we are positioned to be a key supplier of frack sand to the growing energy markets. Combined with our ongoing success with crude-by-rail, we now have line of sight to more than 80% of the CAD400 million of incremental annual revenues I mentioned at Investor Day, and we will continue to grow from there.

On slide 13, automotive revenues were up 36% with unit growth of 14% versus Q2 2011 as we lapped the impact of effect of last year's tsunami and benefited from the return to normal production levels of the Japanese manufacturers. The strength of our continued strong service allowed our customers to capitalize on improved buyer conditions in North America as a stronger expected sales in Q2. For 2012, we continue to model growth over 2011 in line with the 14.1 million industry auto sales estimates.

Finally in forest products, revenue were up 2% on 11% lower volumes. Lumber volumes were up but were impacted by pulp due to a closure of a pulp mill on our lines and weaker export pulp markets. We expect that lumber improvements will continue to be offset by pulp weakness, resulting in volumes being flat in the second half of the year versus 2011.

So to recap our merchandise, we are modeling consistent with North American automotive sales for automotive; flat for forest products; and continued double-digit growth in industrial products.

So as I wrap up on the markets on slide 14, we continue to create value for our shareholders with sustained profitable growth across the portfolio. We have delivered strong revenue growth in Q2 despite the strike and will continue to deliver in the second half of 2012. I'll remind you that my comments regarding second-half volumes include what we expect from strike recovery volumes.

As we continue to build on our service performance and continue to create capacity for profitable growth, we are growing our core business and delivering on our strategic initiatives. We have the right team, we are visible in the marketplace, and we are making our markets.

And with that, I will turn it over to Mike.

Thanks, Jane, and good morning, everyone. Q2 was a solid quarter operationally; and despite a nine-day strike of our Running Trades and Rail Traffic Controllers that shut down our Canadian operations, we continued the successive improvement trend on our service and efficiency metrics that we began in mid 2011. The disciplined execution of the integrated operating plan and our multiyear programs are driving improved operational performance, and I'm more than confident that we will continue to deliver much more.

Beginning on May 23 our Canadian operation was shut down for nine days as a result of a strike by our locomotive engineers, conductors, and rail traffic controllers. While we had worked hard to get a negotiated settlement, we needed to stand firm on the need to create a long-term, competitive cost structure.

We believe the offer we had presented the union was fair and reasonable. The key issue is the need for changes to the legacy pension plan to make it industry-comparable.

A mediation arbitration process has been established, and the Minister of Labour has appointed the arbitrator effective July 19. This began the start of the 90-day process.

Our approach will be to resolve as many issues as possible and narrow the gap on the balance. Any outstanding issues would then be arbitrated to provide a final settlement.

At the commencement of the strike we initiated both a safe and efficient shutdown of our Canadian operations and, as well, at the end a quick ramp up, restoring service and efficiency metrics to pre-strike levels once all employees had come back to work on June 1.

Finally, it's important to note that during the shutdown we took full advantage of the downtime to complete a number of major engineering projects and advance some planned locomotive maintenance activities. With this we have created some additional capacity to utilize -- to capitalize on fall volume upside this fall.

Moving to slide 18 and safety. As I have said many times, safety is good business. It enables good service, drives efficiencies, protects our people, the environment, and the communities that we operate through. During the quarter, personal safety improved 28%, and our train operation safety performance also improved by 15%. We intend to remain a leader in this area.

Let's turn to slide 19. Our strategy on improving both train lengths and weights continues to demonstrate results, with both of these metrics up by 1%. These are new all-time highs.

We are on pace for our previously stated 1% to 2% improvement for the year as increasing Intermodal and merchandise demand is handled on existing trains, and we continue to advance a number of productivity improvements through our operating plan redesign and in our bulk operations such as coal, which Jane has already spoken to.

Locomotive productivity was flat; but when excluding days impacted by the shutdown, locomotive productivity improved 9% year-over-year. In the coming quarters, we expect to beat record locomotive productivity levels through an improved fleet mix, strong growth in the energy-related sectors, and continued improvements to and execution of the IOP.

Employee productivity was down 7% in the quarter. Adjusting for the strike this productivity was flat. However, for 2012 we are still expecting to realize a year-over-year improvement of 2% 3%.

This improvement will be driven by higher anticipated volumes, workforce attrition catching up with our hiring program in the second half, and a number of initiatives to drive improved train and yard productivity and improve crew-to-train ratios.

Turning to slide 20. We continue to drive improved performance on most of our key efficiency metrics. Ongoing capacity investments, execution of the IOP, and improved operating conditions delivered train speed improvements of 19%. Terminal dwell improved by 10% year-over-year and is a Q2 best.

Implementation of the next phase of our First Mile Last Mile program and our aggressive storage and offleasing of surplus railcars will help drive further improvement over the next several quarters. Also with the removal of 13,000 active cars or 24% of the active fleet, car miles per car day hit a Q2 record of 194, an improvement of 26%. When adjusting for the strike, we hit an all-time record of 209 miles per car day.

I expect to continue breaking records in coming quarters and translating these results into reduced equipment rents.

Finally, fuel performance was flat, as benefits from our conservation programs were offset by the inefficiencies associated with the shutdown. But fuel efficiency remains a key priority for us and I am more than confident we will hold to our 3% to 4% improvement for the year as we execute our plans.

Moving to slide 21. As you look into the third quarter, our strong performance trends continue. Through July 15, the key operating metrics I noted remained solid, with train speed up 13%; active cars on-line improved by 20%; terminal dwell improved by 12%; and weekly car velocity up 29%.

Again, this improvement trend began last year; and our goal is not only to sustain but to continue to improve these numbers in future quarters. Rest assured the team is working hard, remains focused, and further improvement is expected.

In summary, Q2 was a solid quarter operationally. And despite the nine-day strike that shut down our Canadian operations, our improved operating trends continued and we were quickly able to restore our service and efficiency metrics.

The team's consistent execution of the IOP and multiyear programs is delivering the sustained performance improvements we have been seeing. Stay tuned; there is more to come.

Kathryn, over to you for the financials.

Thank you, Mike, and good afternoon, everyone. Let's begin with earnings on slide 24.

This quarter had a number of significant items which reduced EPS and increased our operating ratio. I will summarize these items with you in a moment.

Revenues were up 8%, reflecting relatively flat volumes. But as Jane discussed, we had positive price and fuel surcharge revenues.

Operating expenses were up 9%, and operating income was up 3%. The operating ratio came in at 82.5%. However, significant items increased our OR by more than 600 basis points. Below the line, interest expense was up CAD6 million or 10%. Other charges were higher by CAD24 million, with half the increase due to proxy advisory related costs and the remainder due to a gain recorded last year on a sale of commercial notes.

Income tax expense was higher by CAD3 million with an effective tax rate of 31.8%. Included in this amount is an CAD11 million one-time reevaluation of our deferred tax balance due to a freeze in the Ontario corporate income tax rate. For Q3 and Q4, you can still expect a tax rate between 25% and 27%.

Diluted earnings per share was CAD10.60 in the second quarter, down 20% versus 2011 and greatly reduced by the significant items summarized on slide 25.

First, the financial implications of the strike. We estimate the net impact to revenues was about CAD80 million to CAD90 million. On operating expenses we saved CAD21 million, principally labor, fuel, and a small amount of equipment rents.

I would note that during the work stoppage, we made productive use of our remaining workforce by advancing capital track maintenance work and locomotive repairs, accelerating some capital into this quarter. In total, we estimate that the strike had an impact of roughly CAD0.25 to CAD0.30.

The CEO transition costs increased the comp and benefit line and purchased services line by CAD42 million. As I just mentioned, below the line other charges were increased CAD13 million due to the proxy-related costs. And tax expense increased CAD11 million due to the freeze in the Ontario tax rate.

As a result of these items, EPS was decreased CAD0.55 to CAD0.60 and the operating ratio increased 600 to 650 basis points.

Before I move into the details of each of the expense lines, let me remind you that last year we experienced severe flooding in the second quarter. I won't specifically speak to the flood-related variances, but you will note that a flood tailwind is included on the variance analysis on the applicable slides.

So, let's start with compensation and benefits on slide ,26 which was higher by CAD29 million or 9% versus second-quarter 2011. The strike reduced comp and benefits by CAD10 million. CEO transition costs were CAD20 million. Incentive and stock-based compensation was up CAD7 million, principally due to better corporate performance versus last year, where no bonus accrual was made, given the operational challenges.

Also, please note the sensitivity for stock-based compensation has changed this quarter. You can refer to the financial statements for additional information; but the revised sensitivity is now that for CAD1.00 change in share price, it increases or decreases compensation expense by approximately CAD400,000.

Volume accounted for CAD11 million; wage and benefit inflation CAD5 million; other items netted to a favorable CAD5 million, including lower overtime; and FX was favorable by CAD4 million. We ended the quarter with about 15,100 employees, an increase of 8% over last year. I expect our average active expense employee to be flat for the remainder of the year.

Turning to slide 27, fuel expense was up CAD5 million or 2% versus last year. GTMs were down 3% this quarter, reducing fuel expenses CAD6 million.

Lower fuel price provided a benefit of CAD5 million as our all-in cost was $3.49 per gallon down $0.01 from $3.50 a year ago. Hedging created a year-over-year headwind of CAD5 million due to the large gain we recorded last year when prices were rising.

Other was unfavorable by CAD3 million, while FX was unfavorable by CAD9 million. We estimate strike-related inefficiencies were approximately CAD5 million as we ramped down operations, repositioned locomotives and cars to ensure a smooth start-up, and then ramped back up.

Fuel efficiency as measured by gallons per 1,000 GTMs was flat at 1.14. The strike did impact this metric. However, as Mike has already stated, we are still targeting our inefficiency improvement of 3% to 4% for the year. Year to date our improvement is on target, tracking at 3%.

Turning now to equipment rents on slide 28. Improvements in asset velocity in both locomotives and freight cars continued to drive efficiencies, and this quarter benefited by CAD2 million. Offsetting this benefit was lower car hire receipts of CAD3 million.

Leasing costs were higher by CAD2 million driven by higher renewal rates. Year to date, we have provided notification to return 2,100 cars. To date, we have line of sight to an additional 1,400 cars in the second half of the year.

Asset velocity will continue to reduce equipment costs per shipment. However, in the near term we will have some lease turn-back cost as we go through this resizing.

So, let's turn to purchased services on slide 29. Purchased services and other was up CAD44 million or 19%. CEO transition costs were CAD22 million.

Casualty costs were up CAD7 million, largely as a result of cleanup costs related to a crossing incident. We are pursuing reimbursement from a trucking company; however, we cannot record the receivable until recovery is assured.

There was a CAD7 million expense associated with the early termination of a third-party locomotive service agreement, furthering our locomotive shop strategy to insource work. Track dismantling costs were higher by CAD3 million, resulting from the higher track maintenance performed during the strike; and locomotive overhauls were higher by CAD2 million and should remain higher year over year as both the number of units and cost per unit are higher this year.

Other contains many puts and takes, with the majority being inflation. FX was unfavorable by CAD3 million. And finally, second-quarter land sales were higher by CAD1 million versus last year.

Turning to the remaining operating expenses on slide 30. Materials were essentially flat year over year. Depreciation was up CAD13 million on the quarter due to our accelerated capital program and the decommissioning of certain IT systems. As part of our normal depreciation reserve studies, CP is completing a depreciation study on our IT assets. As we continue to advance our IT programs and retire systems, we expect this run rate to continue for the remainder of the year.

The second quarter began with good volumes and record operating metrics. The strike was a pause in that momentum. The team was able to quickly ramp up post-strike and return fluidity to our network and service to our customers in a smooth and structured fashion.

We've had a number of significant items that masked our true financial results. However, with the noise aside, we have a solid performance to build on.

Our capital plan is on track and we are seeing real volume growth in strategic areas like energy, and we continue to drive operating improvements into the network. This is a strong franchise with positive market opportunities, and we are committed to providing quality service as we drive long-term value for our shareholders.

With that, I will pass it back to Hunter.

Well, thanks very much for those very informative presentations. Sarah, with that, we would be delighted to take any questions the audience might have.

(Operator Instructions) Ken Hoexter, Bank of America Merrill Lynch.

Hey, good morning. Hunter, when you think about doing more with less, that you've talked about for years, what do you think the time frame is until we should hear about that potential?

Ken, I think probably late fall is a good time frame that we will be able to be a little more specific than we have been with the plan going forward.

Okay.

Yes, I think we have identified a lot of things that we are looking at, that Mike and the team are looking at exploring from the operating side. You know, some terminals and some strategic issues there, and so I think we will be able to come to you with a pretty complex explanation of the plan going forward over the next three to four years.

Wonderful, and if I could get a follow-up there. Just as you went through the strike, I guess to Mike, what was the aim ahead of the strike? What was ideal to gain?

And was there a difference in the midst of negotiations as you moved from Fred to then Steve to Hunter, in terms of how you thought about it and what you were trying to accomplish?

No, there was no change in strategy. Our approach was to try to negotiate a settlement that was mutually agreeable to both parties. We had some significant issues on the table, the one I noted primarily being pensions.

This was important enough for us to nail in terms of bringing our pension structure in line with the industry. Being industry-comparable and therefore competitive in terms of our cost structure.

Unfortunately, even with mediation from the federal Minister of Labour's office we were unable to reach an agreement. The Teamsters chose to exercise their right to strike. We went into a structured shutdown.

We did perform the work I noted through the course of the strike and started back up after we were legislated back to work.

The process that has been laid out in terms of the mediation arbitration, we believe will be a constructive one and will get us to where the parties need to be at the end of it. But this was an important issue for us. Unfortunately, we had to take the strike; but it is one that we are going to push through and see through to the end here.

Appreciate the insight and good luck with the new team.

Thank you.

Walter Spracklin, RBC Capital Markets.

Yes, thanks very much and I just want to say welcome back, Hunter. It is quite interesting, hearing your voice back on these calls. So just welcome back.

First question for you, really is on the customer side. There had been during the proxy battle a lot of discussion about the potential impact of a change or potential change in your strategy in how CP will be dealing with its customer base, and what impact that might have on the various customers that you deal with.

Hunter, have you had a chance yet to speak to the customers? If so, is there any -- in any particular areas that are voicing more concern than you would have been expecting?

No. I have met with five or six of the larger customers that were kind of front and center during the proxy issues, and we had a good dialog and a good exchange. The tone for whatever reason is certainly different today than it was a month ago. It was just -- it's been a big love-in.

And all they want to know is -- have some assurance that the commitment that the organization had made to them previously that I intend to carry out. I assured them that I am here to carry out the commitments that we've made. It is in our interest to lead the growth.

And I think it is a positive, and it certainly should not be viewed in any way at all as a negative.

Okay. Janet, I am going to keep my question to one, reluctantly, and pass it on from here.

But Jane has got a little additional comment here.

Oh, Jane, sorry.

Yes, I was just going to say, Walter, that we have been having really thorough dialog with our customers throughout this entire process and through the leadership change. Our customers were expecting a change, and I would say that based on all of the discussion that we have with our team, it is that our customers are looking forward to working with Hunter.

They see the importance on the service improvement side, and I think that they all want to find ways to look at supply chain collaboration and service hand in hand. So, they are looking forward to the change, and we are looking forward to moving forward.

Okay, that's very encouraging. Thanks very much for the color. Appreciate it.

Tom Wadewitz, JPMorgan.

Yes, good afternoon, and welcome back, Hunter, and congratulations as well. Let's see, you've only been there a couple weeks, so it's kind of hard to ask too much detail about initial impressions.

But what do you think the initial impressions are of anything different than what you had talked about in the prior six months about the opportunity? And also, what are these steps that you would think of leading up to presenting that plan in the fall? Is it getting the team in place, and then having a new train schedule? I think of those as a couple, but maybe what some of the things are that you need to do before you give us a broader public presentation, which I think you said might be in the fall.

Well, Tom, I think that certainly from the presentation this morning you can see that we are building from a pretty solid foundation. There are some strengths the organization had that I didn't even appreciate.

I think from a technology standpoint, they were way ahead of the competition as far as in-train dynamics and handling trains over the mountains and DP applications and some of those things that this team has become the leader in, which gives a good foundation.

This is not going to be a different story than what you are used to, Tom. I think that we are going to work very hard on some velocity issues. We are running to some trial tests as we speak to improve transcontinentally our Intermodal operation. I want to see that tested out well and before we take it to the market.

I have spent a great deal of time looking at terminals, and that is kind of one of my strengths, hopefully something I can bring to this team. If you look at our terminal complexes, they are basically 1950s and '60s vintage hump yards. The world has changed a lot since 1960.

We have got places that we're not going to be able to justify having a hump that we ought to have a different type configuration. So we are looking at those opportunities and what they could bring to us.

I think there are some creative ways to do some opportunities, some siding extensions, by taking up underutilized sidings that we are not using because of their length and adding -- and putting them together to minimize capital costs.

So there is -- I don't know that there is anything that we have not yet touched upon as potential opportunities. We just need to get a little better feel for where we are going to be, that some of these things we can consistently sustain, that we can do what we say we are going to do. And then we will be ready to come both to the market as far as a service offering to the customers and at the same time come to the Street and say -- look, this is -- I feel even stronger today than I did two or three months ago about the numbers that I was throwing around of mid 60s in four years, and a lot of people have had questions about, which is fair. Particularly the timing, but I think they are in for some surprises.

Okay, great. Well, thank you for the comments.

Jason Seidl, Dahlman Rose.

Thank you. Hunter, welcome back. Nice to have you. My question is going to be for Jane. Jane, you talked a little bit about pricing and mix being up 5%. Can you tell me what mix accounted for as a stand-alone basis?

Well, I would prefer that as we look at this overall, as I said, we have been delivering to our price strategy of 3% to 4%. As our service has improved we are continuing to realize the value that we are seeing in the product.

But at this point in time I would like to talk specifically about price and mix being 5%. And we are moving directionally in the place we need to be.

So you were in your 3% to 4% target range then?

Absolutely.

Okay. Going forward, we have seen some weakening at least from some of the US carriers of some of their pricing ability. But you know, one could argue that some of them got higher price increases in the past than some of the Canadian carriers did. Have you noticed that at all in any of the markets that you serve?

I would just say that, again, our message has been really clear. We have seen our sustained level of service improve and we put that product into the market. We have been really clear about what our price strategy has been.

We have also been clear that we have been delivering on that. So, I think again, as we see the success of improvement take place in the market, as we see that service improve we are going to look to command that value in the market.

So to your question, I think -- I can't comment on how other franchises are organized or how their markets are put together. But what I can say is that we have had a very clear game plan, and our team has been delivering the value that we have intended.

I appreciate the time as always, guys.

Fadi Chamoun, BMO Capital Markets.

Hi, thank you. Yes, Hunter, it was good to have you back. I have a question on your impressions, as well, so.

We have seen some good momentum here in the operations in the past two, three quarters. I am sure over time you will put your handprint on how the operations are managed. But do you envision a significant shift in the way that the operational strategy is working? Or should we think that this momentum should continue and maybe ultimately get in hand at some point as you get your hands around all the details?

I don't think you could describe them as significant shifts. There might be a little more emphasis placed here or there. But if you look at the values of this organization and the things that they've been talking about in the past, and you put my track record beside them, they align.

We are going to talk about serving the customer, doing what we say we're going to do, controlling the costs, make the assets sweat, don't get anybody hurt, and recognize that all these things are done with people, and the strength and the power of people, and the importance they have to organizations.

And maybe I can add a little passion to that, and keep in mind that integrity is very important. So we are taking a pretty strong foundation and base here. I have got a little bit to add in the way of seasoning at least, so I have got a few ideas that can help.

You know, I have learned a lot in this two or three weeks. I have been away a little while, and other people have accused me of having rust. But I have got most of the rust off, and -- no, I don't think there is going to be major shifts.

I think we are going to be after velocity and assets. And look, that all fits together. When the assets turn quicker and velocities improve, the customer services improve, the cost is lower, and it's a pretty good formula.

So, no, I don't think there is going to be major shifts. I think you might not even know the difference except maybe the results in a year.

That's great. Thanks.

Cherilyn Radbourne, TD Securities.

Thanks very much. Good afternoon. Your organization has been through a lot, as you alluded to in your comments. You had a proxy fight, and a strike that was ultimately ended by back to work legislation. So if I only get one question maybe I can just ask Hunter and Mike to both comment separately on the mood at the grassroots level within the organization.

Well, maybe I will go first. I don't want to influence Mike's comments, but -- you know, I think it is fair to say it is certainly mixed.

I think there are some people out there that see me as the big bad wolf and think I am going to walk in here and not do things positive for the organization and they are not real pleased about that. But at the same time, I have been pleasantly surprised as I have been out on the property and been able to shake hands and meet railroaders that are very encouraged by the changes that the organization -- not necessarily me, but the changes in the organization is trying to make.

So, there is a mixed bag out there. As I have said before many times, a lot of us don't like change. And people that don't like change are going to probably be at the wrong place, because there is going to be some of it.

But I am not here to tell you that everybody is having pep rallies out there, but at the same time I think there are people that are very encouraged that -- look, I am a railroader; I am going to help Mike and the team here, Jane, Kathryn, and all of them, and bring something to the table. And so overall I think the climate is pretty good. Now we will see what Mike thinks.

No pressure. No, Cherilyn I mean change always brings lots of churn, lots of concern. But I'd come back to something Hunter said before and you have heard me say this before as well, that when we talk about our fundamental beliefs, our core principles, whatever you want to call them, they are not that different. We have talked about service, we have talked about safety, we have talked about productivity, efficiency, cost control, what it's going to mean to grow. And all of that is founded on our people.

So, when we sit and we talk about where we have been, where we are, where we are going, a lot of those same principles come up. We don't fundamentally disagree on any of them.

To Hunter's point, there are some things that we have been doing very well, we are going to continue to do. There's a few tweaks we're going to make along the way. We might move faster on some, slower on others.

It is all about pulling the right levers at the right time. But I can tell you in the morning we are not debating whether we should go faster or slower; we are aligned. We are going go faster and we are going to do it more safely, as an example. And we are going to continue to drive our unit costs down.

So, Hunter is getting up to speed on some of the details of what we've got in place, and he has got some views of his own. And we are going to meld those together and drive forward. The team overall, Cherilyn, as Hunter said -- yes, there is a bit of a mix out there. But on balance, I would say the team is looking forward to driving forward with the continued improvements -- faster, better, more of them.

Okay, thanks. That's my one.

Chris Wetherbee, Citi.

Great, thanks. Good afternoon. Good morning. Hunter, welcome back.

Thanks, Chris.

Wanted to just ask a question on the energy comments, Jane, that you made in the presentation. You are pulling forward into the crude-by-rail target. Just wanted to get a sense maybe how you think about the CAD400 million target, what that run rate -- or when that run rate probably comes up, and then maybe what the longer-term thought is or what the 2014 target is on crude-by-rail.

How do you see this developing? What is the go-forward beyond some of what you have given us so far?

Well, I think, Chris, just to be clear, I mean -- we have been in the marketplace, obviously, proving our model on crude-by-rail. And we have expanded those origins to include not only the Bakken and the light sweet crude, but also to look at the midgrade and to look at the heavy-grade Canadian market.

As I've said before, we have reorganized our team so that we are in pursuit of those opportunities, quickly matching up origins and capabilities with customers who are investing in that supply chain. Again, it has come on much faster than what we expected. We have seen -- as I said earlier, we have moved up that target to 70,000 carloads by the end of 2012.

Again, it is really a combination that I don't really want to break down. Because we are working the opportunities, as I talked about my opportunity pipeline, to really work it on all of the energy inputs. The crude-by-rail is one component, the sands one component. We have the other on the construction materials, etc.

But I think the key thing is that this market just continues to expand on a daily basis. As we look at that and we market against our capabilities and how we create capacity in the market and how we use and test our manifest models first and then build into the appropriate unit trains where we see the investment, it is really hard for me to give you anything more, other than what I have said -- is that we are going to grow at 2 times GDP in those markets, and, continue to keep you informed as we have been doing with our press releases to tell you how we mark our progress as we move along.

So, I think that that certainly is where we want to be. As I said before, we have moved up certainly our expectations from a year earlier for the CAD400 million on the annual revenue run rate. But again, this is an area where it's going to continue to evolve and we are going to continue to be in the marketplace and see those opportunities mature.

So, Chris, this is Kathryn. Just to make sure for clarity, is that the CAD400 million is her entire energy portfolio that we gave some guidance around. To her point, that she has moved it up a year, so to the extent we can add additional color maybe later in the year and everything, we will. But it would be inappropriate on this call for Jane to necessarily provide different guidance out there.

Okay. But it sounds like there certainly remains multiple opportunities, potentially coming up in the future. So this is a growing market is the way we should be thinking about it?

Absolutely.

Okay. That's very helpful. I appreciate the time. Thank you.

Chris Ceraso, Credit Suisse.

Thanks. Good afternoon. So, Hunter, a couple of items. Just on your initial take here and your expectations going forward, as you have had a chance to take a look at the property. You touched on this briefly, but is there any expectation that you are going to have to ramp up capital outlays to get some of the work done that you think is important, particularly with the yards?

Any kind of range? Is it going to run 18%, 19%, 20% of sales for a period until you can get some of that work done?

No, once again this is an initial look; this is after three or four weeks. My sense is that the capital spend will probably decrease as opposed to increase.

I think there are some opportunities to take some of the -- as I talked about with the sidings, rather than have to build a new siding in some places, take underutilized sidings and put two of them together; and effectively you don't have a lot of -- capitalize the rail ties. Basically it is a labor issue.

I think -- I am once again forecasting here -- that we are probably going to see fewer terminals and maybe smaller and configured in different ways. Look, we have large terminals that still have hump yards that have a lot of classification tracks. And this is a Company that has got close to -- over 70% is units trained, if you look at Intermodal and the bulk. So those cars don't need to be classified.

So, I think we will make some -- I think I have some ideas hopefully that maybe can be helpful with locomotive productivity. So if I look all-in -- and once again I haven't had a chance to spend a lot of time on this. I don't see any situations where there is going to be any bump up in capital. I think if anything it would maybe go the other way.

Okay.

Now, having said that, if there is big opportunities that come up that are compelling type returns, we are certainly going to be in position hopefully that we can take advantage of those opportunities. That is one of the reasons to improve our free cash flow and be in a position to take advantage of those.

But just what we would think of as base capital, replacement capital, and I don't see a big issue that we have got a gap someplace out there.

Okay, great. Thank you.

Brandon Oglenski, Barclays.

Yes, good afternoon, everyone. Hunter, once again, welcome. I think a lot of people are going to be pretty excited to hear you say that you're even more confident about reaching the targets that were set forward a few months ago.

Can you just maybe expand upon that a little bit? How much of the economy is required to play ball with you here? If we start seeing a lot of slowing, does that jeopardize the progress that you see being made on some of these efficiency targets? Or is it really not contingent on a lot of expansion in the network?

No. Look, this is under, quote, normal circumstances. If we have another big drop in the economy and get into some W recession -- and I don't -- look, economists can't figure out what is going to happen. How can I figure it out?

That is not in the plan. I think my -- initially, due to my lack of knowledge and her greater expertise, my plan was a little more conservative from a growth standpoint. But as I have gotten here and looked at some of the projects and talked to some of the customers I feel that I was probably too conservative on the revenue side of growth.

But if we go through a, quote, normal four years I am pretty confident; I have been doing this a while; I know a little bit about what I am talking about. That if things come together and we don't have some unusual occurrences take place, that this is -- these numbers that we have talked about are very, very doable. So when I got here and looked, my confidence just became even stronger.

Appreciated. Thank you.

Matt Troy, Susquehanna.

Yes, thanks. I just wanted to change course a little bit. We're talking about potential actions that could be additive with your presence, Hunter. I know in the past you have shown a willingness to make tough capital decisions.

As you look at the network and the network map as it exists today, might there be opportunity to change the network, divest of some properties, or anything structural that says there is opportunity in two, three, four years out where this railroad might look different as a whole?

Well, I think we've always got responsibility to take a look at that. There are certain -- I mean there is clearly the core network that we make a lot of our money that -- and there's others that you got to keep a watch on from time to time and be sure they are paying their way, and it is a smart thing, and it still fits with the strategy.

The world changes on us. There is shift in patterns.

So, we will as I have said before -- we will take a look at all those assets, be sure they are paying their way, be sure that there is not opportunities to pursue other strategies. So that is something that it is hard for me to sit here and predict today what the franchise is going to look like in five or 10 years.

I don't know if it will be the same size, it will be shrunk in certain places, or it would be expanded. That is just -- I am just not that smart yet.

I just meant that there is nothing structural on the short list of things, on your to-do list?

No, no, no. Look, you all have talked about all the issues that -- you all know them as well as I do. Some of those issues will -- there will be some tough decisions. Those decisions aren't easy.

I don't think there is anything that hadn't been talked about by management before or discussed, and I think those things we will look at. I think there is potentially some shift in the existing franchise to certain line segments. I think there is some -- a couple of things we could do that maybe could free up and add some capacity.

I think there are some trade-offs we could potentially do. So there's a lot of things on the list of maybe and what-if that we will explore.

Great. Thanks for the time and welcome back.

Thank you.

Cameron Doerksen, National Bank Financial.

Yes, thanks very much. My question is on I guess the arbitration process. If I think to the case of Air Canada, where there was also a back to work legislation, I think part of the mandate of the arbitrator is to ensure the sustainability of their pension plan. I guess I am wondering if we have a similar situation at CP, where the arbitrators mandated here to make sure that your pension on a go-forward basis is sustainable.

So I guess my question is, no matter what the outcome is here with the arbitration, is it safe to assume that we are going to get some pension relief?

Well, you can never say never in these things. I guess I would go back to what I said earlier on this whole issue. This is one of the biggest issues that we have been facing with our labor force over a number of years. You guys all know the numbers in terms of the impact pensions is having on the Company.

The Running Trades Employees in particular represent one of the largest groups in this challenge. That is an unfortunate reality.

We negotiated hard. I was personally there in the final weeks of this negotiation. I went to Ottawa. I was there right up to midnight in front of the Minister of Labour and the unions in terms of negotiating this thing.

The unfortunate reality was that the union was either unable or unwilling to come further in the pension discussions we had. I will give them some credit; they did make some headway in the end. Unfortunately, it was not sufficient in terms of what we needed to do to be competitive in this area.

I can tell you that we the Company were willing to continue negotiations beyond the deadline. We were even willing to enter into an agreement with the union on a mediation or an arbitration process to avoid or avert a strike. And again the union was unable or unwilling to do that and they chose to go on strike.

So we were put into the process in effect between ourselves, the unions, and the Minister of Labour. We now have a mediation arbitration process. It will look at all of the issues on the table, quite frankly; so everybody is going to get fair airtime here in terms of the issues that were on the table during the negotiations.

We will have an opportunity with the tri-party panel. There's three mediators, arbitrators, but there is a lead. And we will be able to walk through all of the issues in detail including the pension and work rules. And the viability of the Company issue, the importance of this to us, will be part of that overall mosaic.

So, with that, the clock is ticking on the 90 days and we begin that process here actually latter part of this week. So I might just turn it over to Kathryn here who will have a couple of specific comments around the pensions.

Yes, Cameron, a couple of things I would like to just clarify for radio-land out there. We are in a very different place than Air Canada.

The sustainability of our plan and the structural soundness of our plan -- we have that. We have taken our responsibility to our pension plan very seriously. And while we do have a deficit, there is not any kind of risk to the plan itself, which I think is very different than the Air Canada situation.

So, while the pension plan is a huge issue for us in terms of a competitiveness and how it places us in the rail market and the drain that it is having on our operating expense, by the pension expense that we have to record as well a cash flow basis. But the situation that was presented to the arbitrator and what the government has had to do for Air Canada, we are in a very different situation than that.

Great. Sorry. I do apologize for comparing you to Air Canada on that basis. Just one final thing. The items that do come down to an arbitration decision, is that a final offer arbitration?

Well, this is -- I would say that both parties, both the union and ourselves and the Minister of Labour are -- I will use the term satisfied with the process that we have agreed to, the tri-party panel, our panel. The way the process will largely play out, we are satisfied that all the issues will be duly heard.

As I say, the process will involve a mediation up front, which essentially means that they will work with both parties to see how close we can get on the various issues; and then they will arbitrate on the final issues that remain outstanding.

Okay, thanks very much.

William Greene, Morgan Stanley.

Okay, thanks. Good afternoon. Welcome back, Hunter.

Hunter, I just want to some statements that you made here, because as you can well imagine there are some pretty big expectations I think built into your arrival on the property. Obviously you've got to get acclimated there. But what I heard you say is that -- listen, you are here to help, and a lot of the facets of the current plan are moving in the right direction.

So, when you think about applying an idea of precision railroading like you've done in the past to CP, is it the kind of thing where you have to take a step backward on OR to take a giant leap forward? Or is this a process where -- no, it kind of starts kicking in right away and things just gradually move toward your ultimate goal, whatever that may be?

Well, it is probably somewhere in between. You know, there is not a step back. I don't see a step back.

I think things are moving positively now. I guess I am -- I kind of look at myself maybe as being the other full barrel to the carburetor. Okay? I can just speed things up a little bit maybe, be helpful to Mike and his operating team with some of my experience in the past.

I can apply in some areas a sense of urgency. I have got some specific ideas. And I think that, as I said early on, you're not going to see this needle jump next quarter 5 or 6 points probably. But I do think that there will be -- over time there will be a pretty sustained improvement in the OR if you're looking there.

So this is just taking this strategy and maybe making a little fine tuning here, a little emphasis added here, an idea here or there, and that is where it is all going to kick in. I mean look, we have done this before. I mean we did this at Illinois Central, we did this at my former employer. I don't know why people are so doubtful that we can accomplish it here maybe.

No, I don't think they are doubtful. I think they are actually the reverse, thinking it can go very, very fast. I just wanted to make sure that, as you start to apply it, there is not a period where you don't see much improvement as the organization learns what you do before you get a big leap. That was all -- I was trying to make sure expectations are appropriate.

Yes, no, I think that -- look, I think to Mike's point that we keep making is this. This is not like throwing out the playbook and writing another book. The playbook is very similar.

It is just some fine tuning here, some emphasis added here. We might punt on third and long, and CP might not in the past have done that.

So I just think it is a pretty good match here of a lot of talented people with some pretty diverse talents. If I had to rate myself, technology is not my highest area of expertise or where I spend a lot of time and energy. This Company has done a lot of work in R&D, particularly -- I mean, given the challenges they have with the Rockies, in spite of the fact that I have said it's not a structural difference. Having said that, it was a learning curve.

So there is a lot that I am learning about DP, and about what can be done and about track train dynamics and so forth. At the same time, I am a pretty good fundamental basic terminal guy. That is where a lot of our expenses are. I can I think get the productivity up in terminals pretty drastically and bring costs down. So I think it is going to be a fun time to sit back and watch.

Yes. Okay, well great. I appreciate the insights. Thank you.

Scott Group, Wolfe Trahan.

Thanks. Welcome back, Hunter.

Thanks, Scott.

So, you mentioned a couple times technology as one of the pleasant surprises that you've seen since you joined the railroad. I am wondering if there is a challenge or two that you see now that you hadn't thought about a few months ago.

Then specifically on the labor side, you have been a part of some pretty transformational labor deals in the past. Do you think there is a chance with the current deal with the conductors and engineers to get in some of the work rule changes that you want? Or is it more realistic to think about that the next round, a few years out from now?

Well, you know, look, my limited knowledge here -- and Mike maybe wants to comment. I don't know about changes now.

I do know that there are some opportunities if we are both willing to sit down with a clean sheet of paper and address the things that I hear them talking about, with quality of life and time off, and at the same time the things that we are talking about. Where I think we are the only rail that I know in North America that is still running basically a 100-mile basic day in the short crew districts, as we call them, and do not have extended runs or interdivisional runs.

That is a huge breakthrough for us, if we can make that. Now, everyone else has made it. Now, so what can we do?

We can at the same time for them allow them more time off and improve their quality of life. So there's opportunities there that I really hadn't even factored in to do that.

Now, you know -- but I will tell you this; I have had some success with labor, but it's hard. The change is hard and it takes time. And it takes more time than I have ever had changing the operating ratio changing the labor agreement.

We had one experience where we had -- we went to the rank and file 8 times; and 8 times management endorsed it and 8 times the union leadership endorsed it; and 8 times it was turned down. And it was turned down because it is a trust issue, it is a change issue, and those are hard things to deal with.

But you're not going to get them down done unless you sit down and go at it and decide. Now, for an example, from a pension standpoint, I think we all know if we look at the situation in North America with pensions something has got to change. This whole -- a lot of organizations have some challenges here.

We have got to go through what I would call a cleansing. I don't know how we are going to get there exactly, but something has to be addressed. My thought is when it's all said and done we will be better, not worse.

Now, whether it is fast enough for us or not -- but I just think on both fronts there, there is a lot of opportunities.

Just to follow up, extended service runs were on the table for this last round of negotiations. We put forward a position that would allow us to do more of them, and also assign more employees. So back to Hunter's comment about giving people more structured lifestyles and things of that nature. That was all on the table for discussion and that will form part of the mediation arbitration.

Hunter, do you think you need those extended service runs to get to the margin numbers you've talked about? Or is that incremental beyond what you have laid out?

No, that is incremental. That is not required.

Look, it is just so basic. It makes far too much sense and is far too logical for people to do it. Okay?

Just think about something for a moment. Just follow me.

The crew districts on average are about 120, 130 miles. They are working on a 3,800-mile cap, that they are supposed to make 3,800 miles a month. That basically is the same system from 100 years ago. It hasn't changed.

So, if you are going to get in, if you only can do 120 or 130 miles a day you've got to work 27 or 28 days a month to do it and you only get two or three days off. Well, that's not good.

Well, look, if you go to extended runs, you can go to 180, 190 miles a day for incrementally very little more time, and you get your miles in 18 or 19 days; you get 11 days off.

Now that makes a lot of sense for all of us. But for some reason it takes us a while to get there.

But that is incremental, okay? But I will tell you what will happen. Once we get over the hump with labor in some of these areas and develop some trust and break through with one agreement, a lot will follow.

I am going to jump in. It's Janet. The call is running a little long so we've got time for one more question today, and again I would be happy to follow up with any of you after the call.

Turan Quettawala, Scotiabank.

Yes, hello. Good afternoon and congratulations, Hunter, from our side as well. Just one question on the strike from me. Just trying to understand.

You talked a lot about obviously the impact on Q2. How much, I guess, should we expect in Q3? I know there is some deferred revenue there. Could you wrap some numbers around that, either in volume or maybe revenue terms? Thank you.

Turan, this is Kathryn. What I gave was the Q2 strike impact. And when Jane gave her information in terms of her outlook for each one of the commodity groups, it also included any catch-up that we would have from the strike. So, if you look at her commentary, that should -- that will -- that already includes what we are expecting to -- that got shoved into the third quarter as a result of the strike.

Okay, thank you..

Well, thanks very much for joining us. It's nice to be back, and I look forward to our next call where we can talk about some of the results where I get to be a player. Thank you.

This concludes today's conference call. You may now disconnect.