CSX Corp (CSX) 2010 Q2 法說會逐字稿

Good morning, ladies and gentlemen. Welcome to the CSX Corporation second quarter 2010 earnings call. As a reminder today's call is being recorded. During the call, all participants will be in a listen only mode. For opening remarks and introduction, I would like to turn the call over to Mr. David Baggs, Assistant Vice President Investor Relations for CSX Corporation. Mr. Baggs you may begin.

Thank you, Fran and good morning everyone. The presentation material that we'll review this morning along with our quarterly financial report and our safety and service measurements are all available on our website at CSX.com under the investor section. In addition, following the presentation a webcast and podcast replay will be available on the same website. Here representing CSX Corporation this morning are Michael Ward the Company's Chairman, President and Chief Executive Officer, Clarence Gooden, Chief Sales and Marketing Officer, David Brown, Chief Operating Officer, and Oscar Munoz, our Chief Financial Officer.

Now before we begin the formal part of our program, let me remind everyone that the presentation and other statements made by the Company contain forward-looking statements and actual performance could differ materially from the results anticipated by these statements. In addition, let me also remind everyone that at the end of the presentation, we will conduct a question and answer question with the research analysts. With 27 analysts now covering CSX, I would ask as a courtesy to everyone, please limit your inquiries to one primary and one follow-up question. And with that, let me turn the presentation over to CSX Corporation Chairman, President and Chief Executive Officer, Michael Ward.

Well thank you David, and good morning everyone. Last evening we reported second quarter earnings per share of $1.07 up 51% on a continuing basis from the same period last year. These results were driven largely by volume improvement and a recovering marketplace, the ability to value price our services and strong safety service and productivity on our railroad.

Looking at revenues broadly, they increased 22%. Volume was the biggest driver at 13% while pricing and fuel cost recovery made up the rest. We took on higher levels of traffic profitably as our employees continue to find new ways to operate more efficiently. They continue to demonstrate our culture of accountability and results. The combination of higher revenues and strong productivity resulted in all-time record financial results including an operating income of $768 million, up 33% from the prior period and a 240 basis point improvement in our operating ratio to 71.2.

We are on the right path and creating value for our customers to help them compete in today's economy. As a result, we are also delivering strong financial results for our shareholders. We remain confident in our ability to grow, drive operating leverage and produce strong financial results going forward. With that I'll turn it over to Clarence.

Thank you, Michael and good morning everyone. In the second quarter of 2010 and an improving economy helped almost all of the markets we served rebound from the lows experienced last year. As you can see in the chart on the left, the manufacturing sector expanded again in June as reflected in a reading of 56.2 from the Institute for Supply Managements Manufacturing Purchasing Managers index. You will recall that a reading above 50 indicates growth. This is the 11th consecutive month that the index has shown growth.

Also, inventory replenishment continues to play a significant role in the recovery as inventory remained below target levels in several markets. In the chart to the right the June ISM report on customer inventories, which assesses respondents views of the adequacies of their own inventories, yielded an index score of 38 which indicates that respondents believe their customers inventories are too low. In addition to this report, the most recent May 2010 US Census Bureau report of Manufactures Inventories To Shipments and Unfilled Orders stood at 1.25 which is near the low end of its historical range. At the same time as the economy and our traffic levels have been improving, we remain committed to delivering a safe and reliable product and we remain focused on capturing the value of our services.

Now let's look at the change in revenue for the second quarter on the next slide. CSX revenue increased 22% to nearly $2.7 billion due to volume growth, core pricing gains and the impact of higher fuel costs reflected in our fuel surcharge program. As you can see on the chart, volume increases drove $290 million of year-over-year revenue growth. Also, the combined effect of rate and mix accounted for $108 million of the increase reflecting yield gains across all markets as we continue to sell the value of rail transportation. Finally, as you look to the slide on the right side of the chart, the impact of higher fuel costs increased our fuel recovery $80 million in the quarter.

Let's turn to the next slide and take a closer look at overall volume changes across the markets that we serve. Total volume of 1.6 million units was up 13% versus the second quarter of 2009. You'll notice on the chart we have consolidated our reporting into three lines of business; intermodal, merchandise and coal. We moved automotive reporting within merchandise due to the relative size of the automotive business when compared to our book of business and due to the similar market characteristics. Looking at the bars, you can see the largest growth was in intermodal at 18% with increases in domestic and international volume. Merchandise shipments also grew 14%. Each of these markets showed greater year-over-year growth than they did in the first quarter. The real volume story in the second quarter was the strengthening in the coal market. Coal volumes grew 7% in the second quarter, a significant contrast from the weakness reflected in the first quarter. This resulted in the first quarter of year-over-year growth since the fourth quarter of 2008.

Turning to Slide nine, the line on this chart highlights the year-over-year change in total revenue per unit which includes the impact of price, fuel, and mix. During the second quarter, revenue per unit increased 7.6%. The bars on the chart show the increase in price on a same-store sales basis. This excludes the impact of fuel and mix. Same-store sales are defined as shipments with the same customer, commodity, and car type, and the same origin and destination. Price on this basis was up 6.5% for the quarter driven to a large extent by the strength and export coal yields. These shipments represent approximately 75% of the total traffic base. Our improvements continue to reflect the unique value CSX is providing to our customers as well as the relative value of rail transportation. Looking forward, we continue to expect core price increases to exceed rail inflation.

Now, let's take a look at each of the major markets that we serve starting with coal. Coal had second quarter revenue of $835 million up 26% versus 2009. Revenue per unit increased on improvement in yield, higher fuel recovery and positive mix. Volume also increased 7% driven by several factors. First, export coal grew 66% year-over-year as demand was strong for US metallurgical coal to Asia. Second, in the industrial sector, domestic metallurgical coal, coke and iron ore volumes grew on stronger steel production, yet domestic utility demand, although improved versus the first quarter, remained lower year-over-year due to above normal utility stockpiles. That said, stockpiles continue to moderate from their peak in late 2009 helped by an increase in burn levels, electrical generation increased nearly 5% for the CSX served territories during the quarter. We expect a strength in both the industrial sector and exports to continue in 2010 with export tonnage expected at about 30 million tons for the year. As inventory levels moderate, utility demand should also improve.

Now turning to the next slide, let's take a closer look at utility shipment run rates. Looking forward, utility coal volumes are expected to improve year-over-year as electrical generation increases, inventories return to more normal levels and year-over-year comparisons ease. As you can see from the bars and red average lines on the chart, utility coal was running at a stronger pace in the first half of 2009 moderating as the year progressed. This created difficult year-over-year comparison in the first quarter and early second quarter of this year. It is important to note that utility inventory levels in the northern part of our network are near desired levels while inventory levels in the south are still slightly above target levels. At the same time, total electrical generation in CSX served territories has improved and is projected to be favorable during the third quarter, as economic conditions continue to gradually improve. As a result, if you look at the gold line on the chart, you can see that weekly volume during the second half of 2010 should soon be near or above the volume levels experienced during the second half of 2009.

Turning to the next slide, let's look at the merchandise market. Merchandise had second quarter revenue of nearly $1.5 billion up 24% versus 2009 driven by a 14% increase in volume and 9% higher revenue per unit. As I discussed the quarters results and future outlook, let me provide you with a brief overview on this slide followed by a more detailed discussion on the slide that follows. First, we achieved growth in the agricultural sector primarily driven by increased shipments of phosphate and ethanol. Next, the industrial sector experienced significant growth due to increased auto sales and an improving economy. And finally, while we experienced some increase in building product shipments related to the government's first time home buyer tax credit, the housing related market is still depressed when compared to historical levels. Looking forward, we expect the ongoing economic recovery to continue driving volume growth. We expect growth during the third quarter across each of the three sectors that we serve.

Now turning to the next slide, let's look at each of these sectors in a little more detail. The merchandise markets continue to show broad based strength. Within the agricultural sector, volume growth was driven by increased shipments of fertilizer, feed grains and ethanol. Fertilizer inventory replenishment continued in the second quarter combined with a strong 2010 spring planting season. Feed grains and wheat shipments also improved. Ethanol volume grew 17% during the second quarter on increased consumption. Recall that the ethanol blend rate in the Eastern United States is near 10%. Ethanol industry has petitioned the EPA to raise the blend rate to between 12% and 15% and the petition is not expected to reach resolution until the end of the third quarter in 2010.

Within the industrial sector, strong volume growth was driven by increased automotive, metals and chemical shipments. Second quarter North American light vehicle production increased 72% year-over-year, although from a very low base. This increase in auto consumption as well as pipe and plate shipments for energy infrastructure lead to strong second quarter growth in metal shipments. Finally, in the chemicals markets, plastics and chemical feedstocks grew in the second quarter on greater need for autos and consumer goods. Also, petroleum products and the industrial sand market experienced double digit gains in volume.

Within the housing and construction sector, forest products and emerging markets saw improved volumes from the lows that were experienced last year. The outlook for paper shipments remained somewhat uncertain as increases in demand and inventory restocking have been offset by declining printing paper and news print consumption. Shipments of aggregates are expected to show some strength in the second half while municipal, construction, and industrial waste shipments are also expected to increase slowly in line with economic recovery and construction activity.

Now turning to our intermodal results. Intermodal had second quarter revenue of $304 million up 7% versus 2009 driven by an 18% increase in volume, which was partially offset by a 9% decline in revenue per unit, which I will further discuss in a moment. The international market lead to volume increase with 31% growth due to the US inventory replenishment as well as new volumes from international customers we gained because of our strong service and network offerings. Domestic volumes grew again this quarter up 9% due to continued over the road freight conversions and expanded service offerings with our new, U-max and door to door programs. Revenue per unit was impacted by several items in the quarter.

While intermodal secured price increases in both its core businesses and had slightly higher fuel recoveries, this was more than offset by the impact on revenue per unit of our exiting our purchase transportation agreement with the Union Pacific. Recall that under this agreement, revenue that CSX billed previously on a trans Continental basis is now billed for just a portion of the move on our eastern network. The reduction and off line revenue was accompanied by a similar reduction in inland transportation expense. In other words, the operating income impact was essentially neutral and the agreement positions us for greater long term growth. Looking forward, we see opportunities for continued growth in both our international and domestic lines of intermodal business as well as a favorable pricing environment; however, the impact from exiting our purchase transportation agreement will be built for the next three quarters in a year-over-year revenue per unit comparables.

The macroeconomic recovery which began in late 2009 is expected to continue throughout this year. The US industrial production is expected to grow in excess of 3% for the second half of 2010. As a result, the outlook for the third quarter volume and revenue is favorable as line haul revenue growth is expected across nearly all markets including coal. As you can see on the volume chart on the left, while second quarter volumes were a significant increase over prior year, they were well behind volume CSX has experienced prior to the recession. That said, our network is well positioned to handle the volume growth as we have handled these higher volumes in the past and we are well prepared to continue providing excellent levels of service moving forward. At the same time, we continue working closely with our customers to develop new business opportunities and to make a significant investments in our network like our National Gateway Initiative. Given what we are accomplishing, we remain confident that CSX stands out as it compelling value for customers, especially as they seek transportation providers that also offer environmental solutions.

Thank you and now let me turn the presentation over to David to review our operating results.

Thank you, Clarence and good morning everyone. As we have communicated before, leadership, discipline, and execution continue to be the foundation of our Company's strong operational and financial performance. During the second quarter, as volume continued to build, our operating team delivered solid safety results, improved productivity, and consistent network performance. We delivered another quarter of year-over-year improvement in FRA personal injury frequency, as we continued to be a leader in one of the nation's safest industries. Productivity gains helped produce record financial results, including an operating ratio of an improved 240 basis points to 21.2%(Sic-see press release) as Michael mentioned earlier. Finally our network remained very fluid and key service measurements remained stable as business volumes increased.

Now let's look at some of the details. Slide 18 shows second quarter FRA personal injury and train accident rates over the last four years. In the second quarter, the personal injury rate improved 14% versus the prior year to 1.13 with 13 fewer injuries. This marks the fifth consecutive quarter that we have registered year-over-year improvement. Although performance continues to improve, our goal is zero.

Looking at train accidents, the second quarter frequency rate increased slightly to 2.78. While stable with the levels we have seen over the last four years, we are not satisfied with this result and we hold ourselves accountable for continuous improvement. This quarter's safety results were achieved through effective leadership and a sustained effort by all of our employees.

Now let's look at our service performance on slide 19. Overall, we are pleased with our network performance in the second quarter. All measures rebounded from the first quarter and the network remained fluid as volume increased. On the left side of the chart, on time originations and arrivals both declined slightly year-over-year but they remain stable at the levels we have experienced over the last several years and continue to support efficient and reliable train operations. On the right side of the chart, measures of overall network performance including both velocity and dwell also remain stable at high levels with volume continuing to build in the second quarter.

Moving to slide 20 let's look at key resources. This chart shows the year-over-year change in volume and key resources and reflects the operating leverage evident in our quarterly financial results. Here, the 13% volume increase in the second quarter is reflected in the gold bar on the chart. Moving down the chart, road, local and yard crew starts did increase in the quarter but at a rate below the volume increase. When feasible, incremental volume was added to existing trains filling available capacity and avoiding incremental crew starts. In total, crew starts increased 6%, well below the 13% increase in volume. Active train and engine employees in locomotives, which track closely with crew starts, also increased at rates less than volume, generating operating leverage in the quarter. As the economic recovery continues, we will take advantage of the opportunities to generate an additional operating leverage while adding resources as required to capture volume growth and to provide reliable service for our customers.

Now let's look at resources from a historical perspective. This chart shows the number of active train and engine employees and locomotives deployed in the second quarter over the last five years. As shown on the previous slide, both resources have increased to support higher business levels in the quarter. However, you can also see that both remain well below the peak levels of 2006 after which freight volumes started to decline. Bottom line, we still have room to grow and we will continue to manage resources closely to meet customer needs while at the same time taking advantage of the opportunities to drive further operating leverage.

Now let's wrap up on the final slide. Looking forward, we will build on our safety performance as we pursue our ultimate goal of zero injuries and accidents. We will drive increased productivity, control costs, and manage resource levels closely as volumes grow. Finally, the network will remain fluid and efficient while providing reliable service for our customers. Our employees continue to hold themselves and each other accountable for providing reliable service safely and efficiently which delivers value to both our customers and our shareholders. Now let me turn the presentation over to Oscar to review the financials.

Thank you, David. A couple of housekeeping items before I begin. Let me talk to you about a couple of reporting changes. First, reflecting the changes in our intermodal business Clarence discussed, it will no longer be -- intermodal will no longer be reported in a separate business segment. Rather it will be treated similar to the merchandising and coal groups and we will no longer provide a separate P & L. And as an addendum to that, inland transportation expense, formerly in its own line item, has been incorporated as part of MS& O for the consolidated reporting purposes. In addition to that, we have changed our accounting treatment related to rail grinding . This change has caused certain prior year expenses to be adjusted based on this preferable method of accounting. This has the net effect of increasing expenses of approximately $5 million this quarter. If you require more changes on -- more details on these changes, they are available on our quarterly financial report.

So with that let me begin with an overview of the quarter results starting at the top of slide 24. As Clarence discussed earlier, revenue improved 22% to nearly $2.7 billion. This very strong top line revenue growth, coupled with the great performance that David and his operating team delivered, drove significant operating leverage and yielded a 33% increase in operating income to $768 million. If you go below the line, interest expense and other income were largely unchanged from prior year. Income taxes increased $62 million driven by higher earnings of course that were partially offset by a favorable audit resolution. All in, we finished the quarter with EPS from continuing operations of $1.07, an improvement of 51% versus last year.

With that as background, let's take a more detailed review of our expenses starting with labor. Labor costs increased 10% or $67 million from last year. As mentioned in the last two quarters, CSX and the rail industry are facing increases in health and welfare costs as well as normal wage increases. The impact for CSX this quarter was $42 million and we continue to expect this level of year-over-year headwind for the balance of 2010.

Second driver was an increase in performance based compensation which is both for management and those union employees who participate in this program. For the quarter, this impacted us by $22 million. Looking forward we can also expect this to continue for the next couple of quarters. Next, if you use the chart on the left as a reference, average headcount for the quarter increased by about 1% resulting in $3 million of hiring and other training related expenses.

Now let's continue our expense review on slide 26. MS&O expense increased 24% or $107 million versus last year. Looking at the table to the right, the largest variance is the year-over-year change in casualty reserves of $76 million. You will recall, our casualty reserves were adjusted $85 million lower in the second quarter of 2009 and our success and safety continued this quarter resulting in a further reserve reduction of $9 million, which nets to the $76 million variance you see on the chart.

Second, the sale of operating property in Massachusetts accounted for a $30 million book loss impact for the quarter. Next, was a $44 million increase in primarily volume related expenses. This includes additional locomotive maintenance and increases in activity in our terminals and piers. Finally, inland transportation costs were favorable by $43 million and reflect the impact of the new U-max program with Union Pacific. This agreement results in a quarterly reduction in revenue as well as a corresponding reduction in operating expense. Going forward we expect to continue seeing this level of impact for the next three quarters when we begin cycling this event.

Now let me discuss fuel. Total fuel costs increased $119 million or 64% versus last year. If you look at the table on the right, fuel price obviously accounted for the bulk of it at $90 million of the year-over-year change as our average cost per gallon climbed over 45%. Higher volume accounted for $19 million of incremental expense and non-locomotive fuel increased by $8 million. The chart to the left highlights fuel efficiency as measured by gallons per thousand gross ton miles. You can see that fuel efficiency decrease slightly at 1% which translates to a $2 million cost increase for the quarter.

On the next slide, let me review the remaining expenses. Beginning with depreciation, these costs increased $3 million year-over-year as the net increase in our asset base was partially offset by lower depreciation rates from the life studies completed in the fourth quarter of 2009. Move to rent, expenses declined $9 million, reflecting the reduction of some long term leases, minor settlements with other railroads and efficiency gains that mostly offset increases in volume.

So now that we've reviewed our expense items in detail, I would like to update you once again on our cost scorecard as we move to slide 29. As you can, see we are providing a different view of our scorecard simply due to the number of unique items in the quarter. Beyond the usual changes in fuel price, we experienced a number of items that have impacted our expense comparability. These include the $76 million year-over-year impact of our casualty reserve adjustments, the $30 million loss on the Massachusetts property sale, and the $43 million reduction in inland transportation costs. When taken into account those items, core expenses increased $134 million or approximately 8% versus 2009 while volume grew at 13%. Additional crew starts increased maintenance on our locomotive fleet and other volume variable costs largely drove this year-over-year change. I'll remind you that also included in core expenses was the impact from inflationary pressures as well as the previously mentioned increase in incentive compensation. Overall we continue to manage costs in an effective and efficient manner and we remain vigilant to insuring we provide the proper level of service and resources against the increasing volume.

And wrapping up now, we continue to see growth in many of the sectors of our business and with the excess resources and the capacity we remain very well positioned to handle the additional volume that will be coming our way. Our operating leverage remains a significant driver in producing the strong bottom line results we saw in this second quarter. So overall, our first half year-over-year earnings growth is consistent with our expectation for a strong 2010 performance And reflects this management teams committment to drive superior performance to our shareholders. So with that, let me turn it back over to

Thank you, Oscar. So summing up, CSX employees have delivered another excellent quarter in a recovering market environment. While the economy remains dynamic, our markets overall continue to improve and our outlook remains positive. At the same time, CSX has demonstrated it can be successful in a wide array of economic conditions. For the long term, we're well positioned to deliver on the nation's growing need for freight transportation. At the same time, our ability to meet that need depends on a regulatory framework that allows us to invest back into our network. We are still active in Washington, focused on finding a constructive solution. In the meantime, employees of CSX will continue to do what we do well, deliver. When we do that we stand out as a unique value for our customers, our investors and our nation. With that we'll be glad to take your questions.

Thank you, we'll now begin the question and answer session. (Operator Instructions). Our first from Ken Hoexter of Merrill Lynch. Your line is open, sir.

Wonderful, great, thank you and great results. Oscar, maybe I could just dig into your last comment on your target for continued performance at these levels. When you think about that are you targeting sustaining these earnings growth levels? Do you think you can I guess maybe operationally if Dave wants to jump in do you think you can get the operating ratio into the 60s? Is there anything structural here to stop you from continuing this level of improvement?

Hi, Ken, it's Oscar. I think on your question of course all things are possible and we don't have any limits to our level of success but for now I think we'll just stick with what we've said with regards to a very strong operating ratio performance for the year.

Okay. Dave, maybe I missed it during your presentation. You were talking about a degradation in origination and departures. Is there some reason as to something going on or I guess is that impacting fluidity of the network at all or is that just the volumes coming back on slowing growth down?

No, we have seen volumes come back. We are very fluid and it's not really a reflection of a loss of fluidity at all. We are working of course to improve those numbers. We did have almost a month of the quarter where we had one of our four western gateways out of business because of the significant flood and that did cause some rerouting and shifting around of traffic which does impact those measurements but they remain very fluid and we're confident about improving them in the future.

Great. Thank you.

Our next is from Mr. Ed Wolfe of Wolfe Research. Your line is open.

Good morning guys. It's Scott Group in for Ed.

Hi, Scott.

First wanted to talk a little bit about coal. Clarence, we've seen some relative weakness in the coal volumes in the past four or five weeks. Can you talk about that? Are you seeing that on the utility or the met side and then looking forward, what's the visibility for met coal given expectations for a slowdown in Asia and Europe and then I guess just a follow-up with that, can you just talk directionally what percentage of your export coal contracts have a take or pay element to them?

Okay, if I understood the three questions, the first one is the recent weakness in the coal volumes and what's happening in our coal business right now is miners vacation is occurring and that's on a rolling basis over about a two to three week period. The second factor that's caused some of that decline was a pause in some of the sheer volumes of export shipments specifically to China. On your second question, which was help me again?

The visibility for met coal with Asia/Europe slowing and then any take or pay elements to the export coal?

We're staying on our 30 million-ton export number, although there has been some weakening in our European markets and some weakening and pausing in the China markets. What that has net resulted in is less upside that we thought we were going to have when we first estimated export tonnage to be at 30 million tons so we think the 30 million is still a solid number. And then on our take or pay contracts, the preponderance of our export contracts will have liquidated damage provisions in them that understand, Scott, if you will that we really don't want to do the liquidated damages. We actually make more money when we haul the coal.

Right, thanks, and then I guess the second question is when I think about a typical seasonality and earnings trajectory, the past couple of years you've had better earnings in the third and fourth quarter but historically if I go back '05, '06, '07, second quarter was kind of peak earnings and then third and fourth quarter were sequentially a little bit lower. How do you think about this year from a typical seasonal standpoint?

It's Oscar. I would probably go back to the more historical levels. I think the economy, we're having nice growth but it's beginning to stabilize a little bit and given that, I would go back to some of the historical second quarter being peak. Thank you, Scott.

Thanks for the time guys.

Our next request is Tom Wadewitz of JPMorgan. Your line is open.

Yes, good morning. I wanted to ask you about cost side and how you would view incremental margins in second half of the year. I think one of the frameworks for kind of viewing that performance is the metric for train starts versus volume, so it's pretty helpful to provide that data to us. Do you think that that metric that your train starts versus volume stays at kind of a similar gap to what we've seen in first half or do you think that's going to change much looking at second half?

I think as business begins to build and as our network gets back to sort of its full operating aspect, you will begin to see more and more resources applied for that and I think that it's important that we provide the right level of service so I think there will be some narrowing of the gap but again understand that our concept of operating leverage for the back half of this year still remains a very, very positive viewpoint.

Okay, and then I guess another factor that goes into that calculation of incremental margin would be what price looks like. You exceeded your -- I think your target was four to five same-store price and second quarter you're well above that at 6.5. Do you think there's room for further acceleration in price in the second half or do you think you've kind of already seen the step up and you kind of stay at this 6.5 level when we look to second half?

This is Clarence. I think what you're seeing at this run rate here is what you're going to see in the second half. Remember that it's primarily the reason we're above our guidance is driven mainly by export coal. When you take export coal out of the equation, we're in the 4% to 5% on our pricing same-store sales.

Okay, great. Thank you for the time.

Bill Greene of Morgan Stanley, your line is open now.

Yes, hi there. I just had a quick follow-up to Tom's question there. You said 4% to 5% same-store sales, is that right? Did I get that, ex export coal?

Ex export coal, that's right. It tended to be toward the higher end of that range.

So the volatility that we've seen in this metric like it was at 6 a few quarters ago and then down to 5 and now back up at 6.5 that's all of the export coal changes, is that the right way to think about that?

Yes, that is.

And then Clarence can I also ask a quick question, it seems like CSX is involved in a lot of rate cases, more so than the other rails. Is that because you're being more aggressive on price or is there something more specific to CSX's network itself or something that's leading to these that we're sort of missing here?

Let me address that. This is Michael. I think we've seen some increase in activity as you know and clearly we continue to value price what our services are. I think we are delivering good value and we work through the STB process and in some cases the mediation has worked. When it doesn't then we're going to continue to defend our prices because we think they are fair and reasonable and so I think it's just what's happening at this point and again, we're continuing to work cooperatively with most of our customers to resolve these in a amiable basis.

Just one quick question then as a follow-up to Oscar. Headcount? Can you keep it flat for the year? You've done it pretty well in the first half but is that sustainable? Thank you.

Yes, I think as David would attest, it is important for us to look ahead in this business, so we'll begin to continue to hire and train in the next couple of quarters in anticipation of the attrition that normally happens in our business, so I'd see relatively flat numbers but on a year-over-year basis kind of that same 1% to 2% that we guided to last quarter for second quarter. We came in a little bit below it but I'd stay with a 1% to 2% in the third.

Thank you.

Thank you. Our next request is Justin Yagerman, Deutsche Bank. Your line is open.

Hi guys. Appreciate you taking the call. I wanted to get a sense talking about resources coming back on as volumes are continuing to improve here. Where are you in terms of lengthening your trains versus train starts, how much more capacity do you feel you have in the three different divisions to continue to lengthen the trains that you're running?

Okay, Justin. That's really dependent on the quarter we're operating in and the type of trains but we certainly do have additional capacity overall and we think that to be around 10% or so for our zero merchandise traffic and in the intermodal traffic we're looking at 15% to 20% in most lanes so we have additional capacity that we'll be filling as we bring on additional volume. We also have resources still available to bring back in terms of additional furlough conductors, a few of those left around 260 or so and then we have some locomotives we have sitting out in storage about 160 of those so we can bring on additional resources as we need to generate additional train starts but we're first looking of course to fill up existing trains and continue to gain the operating leverage we've shown in the recent past.

Okay, and then just trying to understand better your comments around pricing. So given that you said you are seeing some slowdown in Europe and China and demand for export coal but you're still guiding to the 30 million-ton number for the full year. Is that, is 6.5% same-store sales a number that's representative of a 30 million-ton environment or if we see this continued slowdown in end market demand for the export coal, should we expect a reversion back to 4% or maybe 5% given that you're at the higher end you said of that range as we move into the back half of this year?

This is Michael. Let me take a cut at that. We gave guidance earlier in the year of 4% to 5% and we think that our base business is in that range and absent the export coal, we think a pricing would be above rail inflation within our guidance. The export coal was the thing that provides the results we've seen, they're somewhat higher in the first half. We don't know that it will drive that same level of year-over-year increase in the second half at this point.

All right, I appreciate the clarification guys. Thank you very much.

Our next from Scott Malat of Goldman Sachs.

Good morning, thanks, a follow-up maybe to Justin's question. On the coal side the number of trains that have 110 cars or more we're following that pretty closely for a while. Is there any update on what percentage of coal trains have 110 cars or more?

Scott, we continue to push initiatives to increase the train size and part of our TSI program which is fairly -- implemented fairly well now, so we're looking at numbers in the vast majority 75% to 80% of our trains are that size or larger. We do still continue to have some that are a little bit shorter and a lot of it has to do with either mostly receiver capacity limits so we're continuing to work with our shippers and receivers and increase productivity on our coal trains and we've seen a lot of success in that in the recent past.

Thanks, and then just another one just on cars online. It's just interesting to see you've been able to hold it so well in check. How do you think about cars online when volumes are up this much being so held low?

It really is a reflection of the fluidity of the network and we watch those internal measurements as well as the ones you see with velocity and dwell that are sort of the key components to moving cars on and off the system as productively as possible and that's how we're managing that number to keep it as stable as possible and its been successful.

Okay, thanks.

Thank you.

Thank you. Our next from Gary Chase of Barclays Capital.

Good morning, everybody. Clarence, I wondered if you could -- intermodal volumes have obviously been looking very very good. I wondered if you could give us a sense of what the U-max change did to intermodal volumes, if maybe we could think about what that would have looked like absence that classification change?

Gary, the U-max volumes have been extremely good. The -- first off the service levels on U-max are absolutely the best in the country. The equipment turn times and utilization on the U-max have exceeded anything that we've seen, and thirdly, the increase in the volumes really was beyond what we had expected, if you'll recall in the first quarter our first quarter call, so it's been all positive.

How much volume fell out as a result of the accounting classification change? I know the program is doing very well. I'm just wondering how much higher would those numbers have been if you didn't change the way you accounted for the U-max movement?

Well, in terms of volume?

Yes.

Those numbers would have been on a quarterly basis about 15,000 and that would have been strictly the volumes that moved off the CSX core, never moved on the CSX railroad, and a lot of those volumes again were replaced now with interline divisional volumes.

The reason I ask is if you take a look, I mean what you've disclosed in terms of intermodal RTM growth would suggest that you had length of haul increase, the pricing on intermodal just looks like it would have been under pressure and I'm sure you mentioned that you had core gain there. How do you think about what's really going on from a price standpoint in that segment because the optics to show a 9% decline on what appears to be improving or favorable length of haul, is there something else in there that's obscuring a core price gain in intermodal?

No, the improving the haul was all on the Eastern core, where we had lost in the revenue per unit was on the Trans Con moves but both our domestic and international business are on the same-store sales basis we had positive price gains.

It's being skewed by the $43 million, right?

That's right.

And the $43 million is, that was revenue impact or going to be very close, right? $43 million in costs, $43 million in revenue?

It would be close.

Okay, and any thoughts on what's driving the general increase in intermodal activity? Are we peaking early? Any concerns we'll have a little bit of a retail inventory problem as we head into year-end?

Well, I think there's several things driving the intermodal increase. First the international segments of business both on the East Coast and West Coast are up. Secondly, is that the domestic volumes moving off the highway and in the U-max program the fact that we're now able to put asset based carriers on there on the containers where we couldn't in the CSX-U program have proved to be positive and in fact for August 1 in the Trans Pacific trade there's a peak surcharge that's going in place so you're seeing all of the vessels that are in that Trans Pacific trade are full and you're starting to see cargo rotated at the ports in Asia to secondary vessels to come into the West Coast so it looks very positive to us and for growth in the third quarter.

Thank you, Gary.

Thanks, guys.

Thank you. Our next is Chris Ceraso of Credit Suisse. Your line is now open.

Good morning. You mentioned the wage and benefit inflation in your cost walk. What is your expectation for that in 2011?

You know what? I don't have that number ahead of me so we'll post you as we get near that time frame, but traditionally, the normal inflationary increases I think when we talked about the ones from this year were higher in 2010 versus what we had expected in 2011 so we think they revert back to a little bit more of a normalized number rather than the high numbers we have this year.

You may recall we normally enter into five year contracts and the past one we rear end loaded the increases toward the end of the contract which obviously has a good MTB for us so as Oscar is saying as we move into the new contract we would expect to see more normalized increases.

Okay, that's what I thought. You mentioned that the 6.5% price was really helped by the export coal. Was there any benefit in there from tightening in the truckload market or strength in trucking prices as you walked from say Q1 to Q2 or was it really just the coal?

No, the intermodal numbers as I mentioned earlier, we had same-store sales positive increases on the domestic side mainly as a result of the trucking prices going up.

Okay, and just lastly, we've been hearing some more hawkish commentary out of both Mr. Rockefeller and Oberstar. Do you feel like they are getting any closer to getting something through Congress or do you expect it to slip through 2011?

Well, it's hard to gauge that. Obviously the Senate calendar is very crowded at this point. We continue to stay engaged in Washington concerning that but here is really the bottom line. We have to create jobs in this country by making our goods more competitive in the global economy and freight rail is essential to our competitiveness worldwide, so we're still very hopeful that policy that will allow us to continue to earn enough to invest is what should come out of this. In the last five years, the major railroads have invested over $40 billion and even that level of investment, every government study says that that pace is still not going to be enough transportation infrastructure for the next 20 years so we are still continuing to push to make sure we have adequate earnings to continue to invest in our infrastructure.

Okay, thank you.

Our next is from Scott [Flower] with Macquarie Securities. You're open.

Good morning, all. Just a couple of quick questions. Clarence, I know you mentioned that there are a few areas where inventories were with the ISM data below where you'd expect. Could you give us a little more color in terms of the customer base where you think the inventories really are low versus where they're high?

Well, that particular range is information to you, Scott, ranges from a low of 1.2 to a high of 1.8 so it's near the historical lows at 1.25 and what we see in a lot of the inventory, so let me just give you one example is in the steel industry. If you look at what the forward inventories are that are physically on the ground in the servicing centers, they're staying at relatively low levels because nobody wants to get caught with product. The same is true in the phosphate business right now. There's virtually no inventory out in the field locations because you'll recall just a year ago people had $900-ton phosphate and now it's $300 a ton phosphate so that would be two examples.

Okay, and then just a follow-up question. I know that we've talked a little bit about operating leverage but I'm just wondering however you might define it maybe this is for David. Where do you think you're loosest on resources or capacity whether it's the different variables that go into capacity and trust me I know it's a complicated equation in the rail business, where are you loosest on capacity, the resources or lanes and where are you tightest in terms of resources or lanes?

I don't feel like in terms of resources we're really tight in the sense of things that have the most critical lead times, hiring new conductors, training engineers, that's all continuing on a path where we're going to cover attrition plus the additional growth that we anticipate so we can plan that out pretty well and have been pretty good at hitting the targets that we need to hit to make sure those resources are available, locomotive wise we still have a pretty good number of locomotives available so that's another critical resource that we continue to maintain readiness with a surplus that's available for growth. We look at lanes, when we look at some of the I-95 corridor we see tendency there for trains to be a little more full and some pretty good volumes moving across that part of our network but there's a lot of capacity there and we can take advantage of that for growth. We've mentioned intermodal and when we look at train volume increase potential we see that most potential is in the intermodal side of our business, so we see we can add volume to most of our intermodal trains, at least into the low double digit, 10%, 12%, 15%. So we feel pretty good about our current ability to expand the existing train plan to handle additional business and we're always planning ahead, go through a lot of planning tools and effort to be sure we're prepared to bring on additional resources before they're needed but at the time we're ready for them.

Great. Thank you all. Our next request is Jason Seidl of Dahlman Rose.

Thank you, good morning, gentlemen. Oscar, quick question for you regarding the cash flow. Looked to be pretty darn good in the quarter, however there was a big swing of just slightly over $250 million in the other operating activities in your line. Can you give us more color on that?

Well, you got me there. I'm not sure. We did the debt exchange. That could be a possibility, but nothing of any significance, it doesn't hit my radar screen, so we can get back to you, Jason.

And also could you kind of update us on where you guys are at with your share repurchase program or sort of how much you have left?

We probably after the $576 million and 10 million shares we did this quarter we're probably down to slightly below $1 billion of authority left. Slightly below that.

Okay, those are my two. Thank you very much, gentlemen.

Okay, Jason.

Chris Wetherbee of FBR Capital Markets. Your line is open now.

Great, thanks, good morning. Just a quick one for you Michael. Just an update on the Washington side. How active had the discussions been over the last few weeks, do you find yourself responding more to inquiries than you have over the last couple of months or is it the same level of activity?

Well, the Senate commerce committee staff at this point is I think reevaluating a lot of things here. We as an industry made known our issues and our concerns. At this point we stand ready to sit with them any time they are ready to sit down and continue the dialogue.

Okay, fair enough. And then I guess just a bigger picture question maybe for Clarence or for you, Michael as well. From your customer perspective are you getting any body language that's different in the last four to six weeks in terms of being a little bit more cautious on the outlook of the economy or is everything continuing to trend in this slower and steady type of growth environment we seem to have been in over the last two quarters?

Chris, we had some concern that came out at the steel conference in New York I guess two weeks ago about a little concern there may be some possible slowdowns on a worldwide basis in the second half. We haven't seen that happen yet. In fact, our business has stayed fairly good in the steel side and steel capacity is still above 70%. The rest of our business is actually peoples body language is much better than its been in the recent past.

Okay, well that's very helpful. I appreciate your time guys, thank you.

Thank you. Our next is Jon Langenfeld of Robert W. Baird & Company.

Good morning, Ben [Heartford] in for Jon this morning. Oscar if we could talk a little bit about that share repurchase program a little under $1 billion left. What do you expect the timing to be going forward? Do you expect there to be a large amount of repurchase like there was in 2Q or should it be more ratable over the course of the next several quarters?

I think as we look forward, there's no specific timing for that. We always talk about our balanced deployment of capital back to shareowners and we'll continue that process over the next few quarters.

Okay, and David, in terms of service reliability and network performance going forward, as volumes come on but at a slower pace, adding headcount to make sure that the network fluidity is maintained, when we look at originations and arrivals and velocity, should -- going forward should we be looking at levels that are closer to '07 and '08 levels? Is it realistic to believe that you can maintain these current levels going forward as you layer on incremental volume growth?

Ben, we really are pushing to try to push those measurements up as we can originations and arrivals in particular. Everything that reflects productivity of our resources. We believe the levels you see now are levels we should improve so we're not looking to go back to an '08, '07 type level and most of those measurements we're looking to go beyond where we are today and continue to improve those. To get them to the highest sustainable level we can that will really achieve a level of reliability that produces the best value we can for our customer.

If I could get a follow-up. Is '09's high watermark is that realistic? Can you go beyond that with additional volumes?

I think we can achieve a similar level as '09. It depends on the measurement we're talking about but for example, velocity in '09 is a little different this year because the mix has changed somewhat with a little more coal involved but as we continue to grow in those various segments I always encourage looking into measurements, for example, velocity looking at the segment velocity year-over-year and thinking about those volumes and how you see them changing as we report and I think you can see that sort of tells the story of a fluidity that's sustainable at the '09 type high watermarks but the number may not average to be exactly that number but overall the fluidity reflects that.

Great. Thanks guys.

Thank you. Our next request is John Larkin, Stifel Nicolaus.

Good morning, everyone. Thanks for taking my questions. With respect to mix, this may be for Clarence. You mentioned that export coal was a big plus. I guess the U-max deal is sort of a negative with respect to unit revenue. Was there any other noise in there with respect to other commodities that would favorably or unfavorably impact the mix effect on price?

There was a couple three areas that we had. Our export phosphate increased in terms of volume which would have a negative impact on mix.

Because of the length of haul?

That's right.

Okay.

Because of the Port of Tampa. Our aggregate shipments as a percent in the North picked up and they tend to be on an RPU basis slightly lower and we had less River coal versus our Southern utility coal which carries a higher RPU.

Okay.

In a positive impact.

That's very helpful, thank you and then maybe as a follow on, my sense was that there were some fuel tail winds in the second quarter as opposed to maybe fuel headwinds in the first quarter due to the lag in the surcharge effect. Clarence or perhaps more probably Oscar, any color as to what the impact there might have been in the second quarter?

Yes, it's probably the tail wind that we experienced in the first quarter was roughly $30 million. I think probably the headwind we encountered in the second was equal of nature so netting neutral for the first half of the year and as you look forward I think the forward curve is fairly flat so at least from our forward planning we're not expecting a lot on the lag side over the next couple of quarters.

Did you mean to say tail wind for the second quarter of $30 million?

Yes, opposite, sorry.

Okay, very good. Thank you very much.

Our next request from [Cherilynn Riadbourne], with TD Newcrest.

Thanks very much and good morning. We've covered a lot of ground already so maybe I'll just ask a question related to the PTC mandate and ask whether you're on track for your budget for the year and whether you think the industry is being listened to when the rails warn that PTC spending is going to crowd out other growth CapEx?

Well, we're basically on schedule for our implementation by 2015. There's still some equipment manufacturing issues that are still being worked through that they probably need to pick up the pace a little bit. We're in dialogue with them about that. We still continue to press with the FRA that we think 2008 is the appropriate benchmark for gauging the TIH traffic versus, I mean we're pressing for 2015 instead of 2008 as they have postured. We're still in dialogue with them. We are continuing to push to see whether there's potential for an investment tax credit to provide some relief to this expense but it's the law to mandate, we will obey it and at this point we still think we're on schedule to meet those requirements.

Okay, thank you. That's all for me this morning.

Thank you. Our next is Walter Spracklin, RBC Capital Markets.

Thank you very much. Good morning. I don't think this has been asked on your 2011 book. Can you give us a sense of what percent has been negotiated so far and do you have a sense or can you give us a sense of what rates are they pretty much in line with what you were guiding for 2010?

Very little of the 2011 business has been locked in and negotiated for 2011. Most of that will take place in the last half of this year.

Very little less than 10% you'd say?

I don't want to give you a percentage because I don't know other than it's not very much.

Okay, and just second question here, just sort of a broader question perhaps for Michael. When you're looking at some of your peers are talking a little bit about going into focus on some of the ancillary operations supporting your rail network, last mile initiatives and so on, you're coming out of the recession and volumes are coming back nicely, you've got good cost controls in place. What's your next leg for new growth initiatives for new productivity or efficiency initiatives as well, once we get beyond the operating leverage you're seeing from the volume rebound?

Two things. One, we're not looking to acquire and become multi-mode all as we were in past. We think the railroad that we have is the way we can best produce value for our shareholders but similar to a lot of the other major roads, we're looking intensively at that first and last mile and David maybe you can speak about some of the efforts you're making there.

Sure Michael. We're talking about a TSI initiative which really does focus on the first mile, last mile reliability for our customers and really with an intent to encourage growth because of an increasing reliability over time so we're really excited about this new initiative and we've got a lot of energy around it, a lot of teams have been started to begin working on that and we've gotten a lot of direct communication with our customers about the potential value of that so that's something you'll be hearing more about going forward and it's something we believe will produce some results for us that are exciting.

Great. Looking forward to hearing about that. Thanks very much guys.

Thank you, Jeff Kauffman, Sterne Agee.

Hi, Sal Vitale on for Jeff Kauffman. It's been a long call so just two quick questions. Can you just provide a little clarity on the building and equipment line down 9% year on year despite the 13% volume growth. How should we think about that for second half. I know that there was the expiration of some long term leases you mentioned earlier. Is that something that has pretty much played out or does that continue for another couple quarters?

No, it was a couple of unique items to the quarter, Sal, so you're exactly right. The leases, some payments from other railroads that we settle up every once in a while all just happened to hit in the second quarter.

Is there some guidance as to we should look for?

Yes, generally that line tends to move with volume, but David has been running so well it doesn't always quite measure up. We usually do better than that.

And then on the fuel side if I'm looking at this right I think GTMs per gallon was actually down about 0.8 of a percent year on year. I think that interrupts several, a string of several quarters of improvement there. Was there anything in particular that happened in the second quarter that drove that?

There's one factor that's significant and that is we did have our least fuel efficient locomotives in storage in a fairly high number last year about 500 more in storage in Q2 last year as opposed to this year so as we got into additional volume and brought those locomotives back out of storage they are less fuel efficient, very reliable but at the same time it did affect our fuel economy slightly.

Okay, that makes sense and so does that mean that we should look for that fuel economy being a little degraded in the second half of this year?

We believe that we'll continue to show very similar to our prior results and again, a little change here in the sense that we had so many stored last year but otherwise we're going to continue forward with our fuel economy initiatives and doing things to continue to make our fleet more economical.

And then just on the coal side, just talking about the coal yield, you mentioned that export coal was the big driver of the ramp up in the same-store sales growth level from 6.5, sorry, from 4 to 5 to 6.5. If you extract that increase, what would the coal yield look like because it was 18% so if you extract that increase what was coal yield? RPU, coal RPU.

If I extract the increase on the export coal?

Right. So the growth in the same-store sales that came from the export coal if you would extract that what would the coal RPU look like?

We're going to have to get back to you on that question because I just don't know that answer.

Okay. Well, thank you very much.

Thank you. Our next is from Anthony Gallo with Wells Fargo. Your line is open.

Thank you, just one question on the export coal. If I strip out the two trough quarters of 2009, I get kind of a low end run rate of maybe 24 million to 25 million tons. You mentioned 30 million tons for this year. Appreciating that there's a lot of factors that go into forecasting export coal over the intermediate term, is a 24 million to 25 million-ton low end bracket reasonable and what might the top end bracket be given capacity constraints, et cetera?

Well, the capacity constraints, we're actually addressing some of those both at the Port of Baltimore and at Newport News, so we think the number is North of 30 million, somewhere in the neighborhood of as it exists today, around 35 million tons, and capacity, it is the capacity and that excludes anything through any improvements that are being made through the Port of Mobile for Southern Appalachian coals that's going out so that covers your question on the capacity and what's the question on the--?

I think the expectation for this year. We're very strong feeling it's in that 30 million-ton range. We don't think there's significant downside from there.

Right.

And your other question was on kind of the low end you used a 24 to 25. We probably think of the normal run rate over the last couple of years in export more in the 21ish kind of number.

Okay, so even if 11 got really cloudy, we're still looking low 20s?

Yes.

That would probably be the best.

That's all I have. Thank you gentlemen.

Thank you. Our final question today from John Mims with BB&T Capital Markets. Your line is now open.

Thank you, good morning. If we turn back to intermodal real quickly, can you provide some commentary on box availability and where you stand as far as account of domestic boxes that you can access?

Our domestic box fleet right now is about 23,000. Our partner UP with the U-max program is in the process of adding boxes around 4000 to that fleet. Box availability on the West Coast is extremely tight right now, as well as trucking capacity being tight there. Our utilization in that U-max fleet as I mentioned earlier is extremely good, so those are all positive factors.

Okay, great. Thank you, and then the follow on to that, if you look at the on time performance, I mean 71% across the network but can you comment specifically how intermodal would stack up to that number?

We measure intermodal several categories but generally up to our premium number runs at about the high 90s, 95% to 99% for our more premium intermodal service and other intermodal services in the 80s range so it's certainly the high end of that average.

Great. I appreciate the time. Great quarter.

Thank you. See you all next quarter.

This concludes today's teleconference. Thank you for your participation in today's call. You may disconnect your lines.