CSX Corp (CSX) 2012 Q2 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the CSX Corporation second quarter 2012 earnings call. As a reminder, today's call is being recorded. During this 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, Vice President of Capital Markets and Investor Relations for CSX Corporation. Sir, you may begin.

Thank you, Lori, and good morning again, and welcome to CSX Corporation's second quarter 2012 earnings presentation. The presentation material that we'll be reviewing this morning, along with our quarterly financial report and our safety and service measurements, are available on our website, at CSX.com, under the Investor section. In addition, following the presentation, a webcast and pod cast replay will be available on the website. Here representing CSX this morning are Michael Ward, the Company's Chairman, President and Chief Executive Officer; Clarence Gooden, Chief Sales and Marketing Officer; Oscar Munoz, Chief Operating Officer; and Fredrik Eliasson, 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. You are encouraged to review the Company's disclosure in the accompanying presentation on Slide 2. This disclosure identifies forward-looking statements and risks and uncertainties that could cause actual performance to 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 session with the research analysts. With nearly 30 analysts covering CSX today, I would ask as a courtesy for everyone to please limit your inquiries to one primary and one follow-up question.

And with that, let me turn the presentation over to CSX Corporation's Chairman, President and Chief Executive Officer, Michael Ward. Michael?

Well, thank you, David, and good morning, everyone.

Last night, CSX was pleased to report its tenth consecutive quarter of year over year earnings growth, with earnings per share of $0.49, up 7% from the same period last year. We continue to be encouraged by how the business performance, even in tough conditions; in this case, a very significant head wind in our utility coal business. In spite of that decline, volume and revenue essentially held flat, thanks in part to increases in export coal, intermodal and automotive. More importantly, our employees achieved at or near-record performance in key measures of safety and service, continued to adjust resource levels in response to the utility coal decline, and delivered significant productivity through both existing and new initiatives. As a result, we increased our operating income to $943 million and achieved a 60-basis point improvement in the operating ratio to 68.7%.

Now we'll provide a more in-depth view of our results, starting with Clarence, who will discuss what we are seeing in the marketplace. Clarence?

Thank you, Michael, and good morning, everyone.

Total second quarter revenue of just over $3 billion was essentially flat compared to 2011, reflecting a more moderate economic environment. Starting at the left of the chart, fuel recovery increased $17 million in the quarter. Moving to the right, volume-related revenue had an unfavorable impact of $8 million in the quarter, as volume growth in export coal, intermodal and merchandise was more than offset by the significant decline in utility coal. Continuing to the right, the combined effect of rate and mix was $16 million unfavorable in the second quarter. The benefit of core pricing gains was more than offset by unfavorable mix associated with higher intermodal growth and declining coal volume.

Now, let's take a look at each of the major markets in more detail, starting with merchandise. Overall merchandise revenue increased 6%, driven by 1% growth in volume and a 6% increase in revenue per unit, reflecting rate increases across all markets due to higher yields and fuel recovery. Automotive was the key driver in the industrial sector, growing 27%, as North American light vehicle production increased 25% in the quarter. The chemicals market grew 1% with frack sand and petroleum products being the primary drivers. In the construction sector, growth in building products was offset by a decline in aggregate shipments, due to the completion of several stimulus projects. In the agricultural sector, volume declined across all major commodities. Corn shipments to the Southeast for animal feed were lower, as a strong local wheat crop displaced Midwestern corn. Phosphate shipments declined, as buyers delayed purchases in expectation of moderating commodity prices. Finally, ethanol shipments softened as a result of lower gasoline demand.

Looking forward, the automotive market will continue to drive growth in the industrial sector. In addition, we continue to see growth opportunities in chemicals and metals, particularly in commodities that support the oil and gas industry. In the construction sector, aggregate shipments will remain challenged, while recovering housing starts will drive continued growth in building products. Finally, we expect the agricultural sector to be stable, with an increase in phosphate shipments being offset by a lower ethanol demand.

Turning to the next slide, let's look at the intermodal markets. Intermodal revenue increased 10%, to $408 million, driven by an 8% increase in volume. Domestic volume was up 7%, setting a second quarter record. Growth was driven by highway to rail intermodal conversions, the continued success of our UMAX interlined container program and new markets and lanes generating growth with existing business partners. International volume grew 9%, driven by the successful onboarding of the new Maersk business.

Looking forward, strategic investments, such as the national gateway initiative and our Northwest Ohio terminal, position CSX to compete for an estimated 9 million truckload opportunity. These loads, with a length of haul exceeding 550 miles, that originate or terminate in our service territory. Our state-of-the-art terminal in Northwest Ohio increases capacity, expands our service offering by enabling connections between new and existing markets, and improves transit times. For example, the container transit time from the West Coast via Chicago to the New York market has improved by over a day. We expect healthy growth to continue long-term, as new terminals, such as Louisville, and capacity expansions, including Columbus, Charlotte and Cincinnati, drive further highway to rail conversions.

Turning to the next slide, let's look at the coal markets. Coal revenue declined 14%, as strength in export coal partially offset significant weakness in utility coal volume. Domestic utility tons declined 37%, as natural gas prices remained low, leading to the continued displacement of coal at some utilities. In addition, electrical generation declined in the eastern United States. Partially offsetting this weakness, export coal volume grew 41% to 14.7 million tons in the quarter, as demand was strong for US thermal coal.

Looking ahead, even though the market for export coal is volatile, we clearly expect to exceed the tons shipped in 2011, as the demand for US coal will remain strong in the second half, although not at the level we saw in the first half. At the same time, domestic utility volumes are expected to face continued challenges, due to low natural gas prices, above-normal inventory levels, and environmental regulations. Headwinds should begin to moderate somewhat through the balance of this year.

Let's turn to the outlook for the third quarter. Looking forward to the third quarter, we recognize the economic environment has moderated, but remain optimistic, with a stable or favorable outlook in markets that represent nearly 80% of our total volume. Intermodal growth will lead the way, as our strategic network investments and strong service delivery will continue to support highway to rail conversions. We expect export coal shipments will grow, although at a more moderate pace, as increased thermal coal volume is expected to more than offset softness in metallurgical coal demand. In the industrial sector, strong North American light vehicle production will drive increased automobile and light truck shipments. The chemicals market will also grow as our petro chemical customers benefit from low natural gas prices and we capture the opportunities created by the growing domestic oil and gas industry. The overall outlook for the agricultural sector is neutral, with dry conditions reducing an anticipated strong Midwest harvest and ethanol shipments impacted by lower demands and higher inventories. In the construction sector, we expect a continued recovery in demand for building materials, including lumber and panel products, while aggregate and waste shipments will remain challenged. And finally, utility and industrial coal shipments will remain well below the prior year levels.

Let me wrap up on the next slide. Looking at the state of the economy, the Purchasing Manager's Index registered a reading of 49.7 in June, a significant decline from May's 53.5 reading. Please recall that a reading above 50 indicates continued expansion. At the same time, the Customer Inventories Index registered a reading of 48.5, up from 43.5 in May, indicating inventories are growing, but still below normal levels. And while the broader economic backdrop still remains favorable, the broader indicators we follow are mixed. Although these indicators generally still point to continued growth, it is expected to be at a more modest pace. As such, our overall outlook for the third quarter is still positive, as we anticipate stable to favorable conditions in the CSX markets that account for nearly 80% of our volume. While utility coal volume will continue to be challenged by low gas prices and high utility stock piles, we expect these headwinds to moderate somewhat through the balance of the year. Finally, we are delivering high service levels and environmentally friendly solutions, which create compelling values for our customers and drives our long-term growth.

Thank you, and let me turn the presentation over to Oscar to review our operating results.

Thank you, Clarence, and good morning to everyone, our employees that are listening, our customers, and, of course, our investors and share owners. I'm actually very excited to talk about our performance this quarter.

As you know, at CSX, operational success has been built on our employees' commitment to provide customer service at the highest levels and to drive greater efficiency, while at the same time maintaining a constant focus on safety. The second quarter results is a clear reflection of that commitment, as we again achieved record or near-record performance in both safety and service. Furthermore, CSX's more fluid network is driving greater operational efficiencies and further margin expansion. From a strategic perspective, we are constantly refining procedures and resource levels to create faster and more efficient ways to provide service excellence. This requires us to change and adapt to customer needs more quickly, especially in the more dynamic times that we face today. This also means allocating resources properly across the network to stay nimble and be ready to support new business opportunities. We believe that this will enable us to provide a better business product to our customers and stronger returns to our share owners in the near and the long-term.

So with that, let's review the results for the quarter, starting with safety. As you know, safety is critically important in our industry. It's ingrained in CSX's culture, which not only has made CSX a leader in one of the nation's safest industries, but it also translates into the high quality service we provide customers. At the chart, look at the personal injury rate on the left, you can see that CSX employees produced an all-time record of 0.66, representing a 27% improvement year over year. This is a direct result of the Company's strong safety culture. The chart on the right shows the FRA train accident rate, which improved 21% to 1.81. Much like the personal injury rate, this improvement is in part a result of our employees' efforts, but also reflects CSX's continued development and implementation of early detection technologies that enable us to stay ahead of potential train accidents.

Now if we turn on the next slide, let's review our on-time performance. Here, you can see on-time originations on the left and arrivals on the right. In addition, we have again overlaid 6- and 12-month trend lines. As a reminder, the on-time results for the quarter, what we fundamentally produce for our customers, are represented by the bars and the technicals are represented by the 6-month moving average in black and the 12-month moving average in red. When quarterly results are below the trend lines, it's an early indication that we need to take corrective action in order to avoid a longer-term negative trend. Likewise, when the results are above the trend line, it's a signal that CSX's strong momentum in its service performance. In the second quarter, we again achieved an all-time high of 89% in on-time originations and we are close to record highs in on-time arrivals, at 78%. Our commitment to service continues to strengthen and is supported by the positive feedback we are receiving directly from our customers and indirectly through independent market research efforts conducted quarterly.

Turning to system performance on the next side, terminal dwell is a strong indicator of how well we are utilizing our assets. Looking at the chart on the left, you see dwell improved 11%, to 23.2 hours, and the trend lines again reflect strong momentum. The chart on the right, velocity, again, showed strong improvement, up 13%, to 22.4 miles per hour. A more fluid network allows us to utilize assets more effectively and to be nimble in providing consistent levels of service to customers, even while the environment around us is changing.

Let's discuss velocity by market in more detail on the next chart. Velocity was up across all three networks on a year over year basis, as were both the 6- and 12-month trend lines. In coal, despite the continued domestic headwinds, we are seeing improvements in service and productivity. Train length again increased, with 107 cars averaged for the quarter. Through improved productivity and network fluidity, CSX was also able to deliver a record 14.7 million tons of coal to the export market.

Turning to intermodal, velocity remained at high levels, while supporting 8% volume growth. The higher velocity in the intermodal network gives us the ability to reach markets more quickly, better utilize network capacity, and be more responsive to the business demands of our growing intermodal business. A key indicator of service quality is container and trailer availability, which improved to the mid-80%s for the quarter, and represents the percentage of loaded boxes ready for on-time pickup. Finally, the merchandise network continues to perform well, with terminal dwell down 11% and velocity up 12%. We are making more of the deliveries to customers on time and remain in a great position to support growth in these markets.

Now, let's look at productivity and resource alignment on the next slide. We entered 2012 with high expectations for customer service and allocated the appropriate amount of resources to drive that result. Moving through the year, the challenge has been to maintain this high level of service, while improving productivity, and be able to adjust resources to match the lower volume of utility coal. Let's talk on the productivity front. The goal at the beginning of 2012 was to deliver savings in excess of $130 million for the year. The operations team has exceeded expectations and we are now targeting full-year productivity levels in excess of $180 million. Train crews are operating more efficiently, with less overtime and fewer re-crews. At the same time, our strong service product translates directly into faster cycle times for our assets. In addition, the implementation of new technology and other initiatives have improved fuel efficiency.

On the resource front, as utility coal weakened, we continued to take aggressive steps to adjust T&E resources in those affected regions. In addition, after a smooth start to the spring peak shipping season, we continue to store locomotives. These targeted resource adjustments have reduced costs while maintaining service. Combined, the productivity benefits we are producing and the savings we are realizing from the resource adjustments helped drive the 60-basis point improvement in the Company's second quarter operating ratio.

On the next slide, let's talk more specifically about our resource adjustments. The chart on the left represents the total T&E work force, with the blue portion of the bars representing full-time employees and the gold portion representing those employees on furlough retention boards. While utilizing furlough retention boards result in a higher head count than with traditional furloughs, CSX still realizes lower labor costs and retains the flexibility with its manpower to meet attrition and service demands. We have this flexibility because it's easier and quicker to bring an employee off the retention board than the longer process of bringing an employee back from traditional furlough. On the chart on the right, you can also see active locomotives peak during the first quarter of this year. Since then, we've been storing excess power. Again, the decision to store locomotives is aimed at saving costs, but not, not at the price of service or flexibility.

Let me wrap up on the last slide. As I said at the start, the story of excellence at CSX has been developed over many years and the commitment from our employees is as strong as ever, which is clearly indicated in our second quarter performance. Our safety results continue to reflect our position as an industry leader, with record results achieved from employee commitment and utilization of new technology. Service remains at high levels and we will not stop in our pursuit of delivering value to customers. As Clarence mentioned, a strong service product drives value for customers, which in turn drives inflation-plus pricing and volume growth and long-term value for you, our owners. While we continue to produce a superior service product for customers, we will also generate greater operational efficiencies, and we fully expect to realize productivity savings that will exceed $180 million this year. So in summary, our employees are engaged and remain committed in driving safety, service and productivity excellence.

So with that, let me turn the presentation over to Fredrik to review the financials.

Thank you, Oscar, and good morning, everyone.

In the second quarter, CSX overcame significant challenges in the utility coal market to once again produce year over year earnings growth. Looking at the top of this slide, revenue was essentially flat. At the same time, expenses were down 1%, reflecting the productivity gains we have made, as well as the resource adjustments taken to adapt to changing conditions in coal while maintaining high levels of customer service. As a result, second quarter operating income was $943 million, up 2% versus the prior year.

Looking below the line, higher interest expense was offset by the change in other income. Income taxes were $297 million in the quarter, for an effective tax rate of 36.7%. This reflects the impact of the state legislative change and the resolution of other tax matters in the quarter. You may recall, CSX recorded several unrelated favorable state legislative changes in last year's second quarter, as well. Going forward, we continue to expect a normalized tax rate of about 38%. Finally, EPS was $0.49, an improvement of 7%, reflecting the gain in net earnings and the impact of our share repurchase program.

Turning to the next slide, let's begin to discuss expenses in more detail. As you can see on this slide, total expense was down 1%, and flat, excluding fuel. While we made resource investments in the back half of last year, the high level of service that we are currently delivering for our customers is improving asset utilization and decreasing overtime cost. We are also seeing the positive impact of improved train accident performance, through lower equipment repair and materials cost.

I'll talk about the top three expense lines in more detail in the next few slides, but let me briefly speak to the last two items on the chart. Depreciation was up 7%, to $263 million, due to the increase in the net asset base. This is in line with our previous estimates and should continue to increase a few million dollars sequentially each quarter. Equipment rents were also up 7%, to $102 million, primarily driven by strong volume increases in automotive and intermodal that was only partially offset by improved cycle times.

Turn to Slide 24. Labor and fringe expense was down 3% versus last year, or $20 million. Looking at the chart on the left, headcount was up 4% versus last year, to 32,422 employees, and flat sequentially, which is in line with what we previously shared with you. Reflecting the additions we have made to the workforce and looking at the table on the right, hiring and training costs were up $8 million in the quarter. Moving down the table, labor inflation was flat, while core wage inflation was between 2.5% to 3%. This is being offset by savings in health and welfare programs, as well as the impact of lower railroad unemployment tax rate. Next, incentive compensation was $18 million favorable in the quarter, which is in line with expectation we outlined on the last quarter's call. Rounding out the table, volume and other costs were $10 million favorable, reflecting reductions related to fewer crew starts, as well as savings in overtime and relief crews.

Looking forward, total headcount should continue to be relatively constant in 2012, although as we have demonstrated once again this year, we will adjust it quarterly, as business conditions warrant. In addition, we expect labor inflation will remain modest, though will likely increase to about $10 million per quarter in the back half of the year, reflecting the July 1 general wage increases for our union employees. Finally, incentive compensation should be flat to slightly unfavorable in the back half of the year.

Turning to Slide 25, MS&O expense decreased 1%, or $7 million versus last year. Looking at the table to the right, inflation was $12 million. Moving down the table, volume-related expenses increased $7 million in the quarter, reflecting primarily terminal-related costs associated with our growing intermodal, export coal, and automotive businesses. Next, consistent with last quarter, CSX recognized a $20 million deferred gain related to the Company's sale of property last year to the state of Florida, and we will continue to recognize a similar gain each quarter throughout the year. As a reminder, CSX recognized a $14 million gain in the fourth quarter of 2011, so the year over year favorable comparisons will mainly continue through the third quarter of this year. Finally, all other costs decreased $6 million this quarter, which in part reflects improved asset utilization and the impact of lower equipment repair cost.

Moving to the next slide, let's discuss the impact of fuel. Total fuel costs decreased 5%, or $21 million, versus last year. Looking at the table to the right, lower volume reduced fuel expense by $10 million, with gross ton miles down 2.6%. Next, as shown on the chart on the left, CSX's average cost per gallon for locomotive fuel fell $3.14 -- fell to $3.14, down 2% versus last year. This decrease in fuel price accounted for another $8 million of overall reduction in fuel expense, as seen in the table on the right. And rounding out the table, fuel efficiency was favorable by $2 million and non-locomotive fuel expense was $1 million lower.

Now, let me turn your attention to CSX's credit profile on the next slide. CSX has remained committed to an improving credit profile, which is reflected by the favorable long-term trends in key measures used by S&P and Moody's, that you can see on these charts. This improving credit profile supports the Company's commitment to balanced approach for deploying capital to shareholders, through capital investment, dividends, and share repurchases. For 2012, CSX remains on target to invest $2.25 billion. As we updated you on the first earnings call -- first quarter earnings call, longer term, our capital investment target is 16% to 17% of revenue, plus the additional investment required for PTC. In regard to dividends, the Company continues to pay out 30% to 35% of trailing 12-months earnings, as reflected in the latest 17% increase that became effective with the second quarter payment. Finally, we expect to fund share repurchases primarily through free cash flow. There are $434 million of repurchase remaining under the current program, which we expect to complete by the end of this year.

Now, let me wrap up on the next slide. Recapping the second quarter, CSX delivered earnings growth despite the significant headwind from utility coal. Gains in intermodal, automotive and export coal led the way, with safety and service at or near record levels, all of which helped drive margin expansion. On a full-year basis, CSX still expects to deliver earnings growth and margin expansion, despite the mixed economic signals and continued utility coal headwinds. In doing so, we'll remain focused on things we can control the most, maintaining an excellent service product, inflation-plus pricing, and productivity that we now expect to exceed $180 million.

Looking forward, while more challenging, CSX continues to have line of sight in achieving a 65% operating ratio by 2015, the foundation of which is an outstanding service product that drives volume growth, above inflation pricing, and productivity gains. At the same time, we expect utility coal will stabilize later this year or early 2013, and for export coal to remain in the range of at least 40 million tons annually. Finally, as we continue delivering outstanding financial results for investors, CSX remains committed to a balanced approach in deploying cash, which includes capital investments that drive long-term value, as well as dividends and share repurchases that provide immediate return for investors.

With that, let me turn the presentation back to Michael for his closing remarks.

Thank you, Fredrik.

We were encouraged by the team's ability to deliver another strong quarter, in spite of the substantial headwind, and we believe the things we did to get that result position us well for the future. CSX serves a broad array of transportation markets. That has significant advantages for our business, as we saw again this quarter, even though conditions in all those markets may not always align perfectly in our favor. Our focus is on creating the best competitive advantage for our customers, regardless of the environment, as we've done consistently through the ebbs and flows of the economy over the past several years. When we do that, we're able to succeed across an array of conditions, while consistently building our ability to deliver value when market conditions and the economy are stronger.

For our team, delivering value translates into a relentless focus on the things we control the most, safety, service, and productivity and the ability to pivot quickly and shift resources when market conditions change. As we said earlier, despite the headwinds in utility coal and some mixed signals we've seen in the economy recently, our overall outlook remains positive for the remainder of the year. We are working closely with our customers to support them with strong service, while anticipating their needs for 2013 and beyond. We thank our shareholders for their investment in CSX, and now we look forward to answering your questions at this time.

(Operator Instructions) Our first question comes from Bill Greene with Morgan Stanley.

Good morning, Bill.

Good morning. You've talked about this line of sight to 65. And when we think about the drivers there, between volume, price and productivity, can you give us some sense for what's most important there? I think most of us would say volume, probably not likely to grow all that much, given the uncertainty. Although 2015's still far away, so who knows? But it really feels like you're really knocking the cover off the ball on productivity. So how do you think about those three? Is it sort of a third, a third, a third, or is one more important than the other?

I don't think we have -- we know that in the last couple years, obviously price has been the key driver. And I think as we move forward, I think you're going to see more balance between the three levers. So if you look at price and productivity, which are the two things we can control the most, what we have said is inflation-plus pricing is critical, and continued productivity, the minimum of $130 million is also critical. If you look at volume, we talked in my prepared remarks about export coal continued to be up in that 40 million-ton range, at least, and then utility coal is stabilizing. When you look at that overall industrial output, we've seen a couple years here of 3% to 4%, and I think we would like to see that continuing over this time period. So I think you'll see more balance between the three levers as we move forward versus what you've seen over the last seven or eight years.

Okay. Just two quick detail questions. Clarence, can you give us same-store sales pricing? And on CapEx, when do you revisit CapEx, given the coal decline? Thank you.

Let me answer the first one on CapEx. We're staying at the same place as we've been before, with $2.25 million for CapEx for this year. And we've provided the long-term guidance of 16% to 17%. So if utility coal changes, that will be reflected in our spending going forward.

Bill, our overall core pricing gains in the second quarter were in the range of 3% to 4%, and that's excluding the decline, obviously, that we had in export coal. And our estimate for full-year inflation, to give you a comparison there, is 2.4%.

Thank you, Bill.

Thank you. Our next question is from Kevin Crissey with UBS.

Good morning, Kevin.

Good morning. Thanks for the time. Can you talk about the lag benefit that you saw in Q2 from fuel surcharges, and maybe as we look forward, what your thoughts are?

We saw about $17 million in this quarter of lag benefit. And obviously, looking at the third quarter, depends on where fuel ultimately ends up. But right now, there should be some sort of favorability in the third quarter as well, based on what we're seeing the future curve doing.

Can you just remind me, the 65 OR target, does that exclude the SunRail?

The 65 target?

Yes, the OR target?

Yes, it does, because we won't have a gain at that point from that transaction.

Okay. Thank you.

Our next question is from Ken Hoexter with Merrill Lynch.

Good morning, Ken.

Great. Good morning. Can you just talk on the volatility, is the thermal more fixed contractually? And given the concern on global demand, what drives that volatility and how quick can we see that change?

Well, Ken, this is Clarence. The volatility is in just about all of those markets. We have, for this remaining part of 2012, less volatility in the thermal part of our business, because most of those contracts were negotiated last year and are applicable in this calendar year. The metallurgical tends to be more volatile, as the infrastructure demands and demands of both Europe and Asia for infrastructure is moving all over the place, particularly with some of the softening that we've seen in China.

So when you talk about contractually being fixed, are you set on volumes as well on the thermal side?

That's right, yes.

Okay. Great. Then on fuel, WTI dropped $10 sequentially, yet fuel per gallon fell only to $3.14 from $3.15. Last year from 3Q to 4Q when you had a similar $10 drop, your per gallon fell a lot faster. And I know the crack spreads were up a bit. But can you talk about why we didn't see fuel per gallon fall maybe a bit faster?

Yes, I think we've seen a little bit of a divergence this quarter between our fuel price and WTI, which I think most people know. But if you look at HDF, highway diesel fuel, and our fuel price, they are very similar. So we have seen, between heating oil and WTI, a little bit of a divergence. But we're very consistent with what highway diesel fuel was in the quarter.

Great. Appreciate the time.

Thank you. Our next question is from Tom Wadewitz with JPMorgan.

Good morning, Tom.

Good morning. I wanted to delve a little further into the export question. When we think about the origination area you have for your exports, to central App primarily, it seems that that's a high cost region, that on the thermal side might have challenges if you look out a bit further. So can you give some comments on how you think about that and think about sustainability of the thermal export side, and I guess whether you have any contracted in when you look to 2013?

Well, you know, a lot of our coal not only originates, as you're aware, for export in central App, but northern App is now a growing part of our portfolio for export coal, a very significant part of it. So to that, in that regard, it's been a very positive experience to what we've seen happen in northern Appalachia. Going forward for 2013, we're not prepared to talk about today if we have any contractual commitments for thermal coal in 2013, because it's too early, just to be honest with you, to give you any kind of sense of that.

Okay. And then the second question. Last year, you had -- when you look at third quarter, there is -- I think volume was weaker than expected and you were hiring to -- you had some resource additions to address the fluidity and velocity. And so you had some challenges on incremental margin in second half of the year last year, gives you a somewhat easier comparison, I would think, on margins this year. So would you expect to see that come through in accelerating margin improvement in second half and accelerating earnings? Or are there additional things that may offset that when you look to the second half?

Well, I think, Tom, what we've said in terms of guidance has been our full-year guidance, both in terms of earnings growth and margin expansion. And I think -- so I think we're going to stick with that guidance. There are a couple of things, pluses and minuses as we move into the second half of the year. But we're going to obviously focus on the things that we control the most, which is to continue to drive productivity and inflation-plus pricing. And I think we've laid out some of the things on the cost side that we have in individual line items. So I don't think we're going to give a second half or quarterly guidance there, but we continue to drive value and I think we've got off to a pretty good start here in the first half of the year.

Okay. Thank you.

Thank you.

Our next question is from Brandon Oglenski with Barclays.

Good morning, Brandon.

Good morning, everyone. First, I would just like to ask about the incentive compensation. So, Fredrik, are you suggesting that the accrual is going to change in the third quarter, or that just that the year-on-year comparisons become less favorable?

Yes, sequentially going forward, the accrual will stay the same, from what we're seeing right now. The big driver is going to be that last year in the first half, we were accruing at a certain level, and as the economy moderated in the second half and we made some of our resource additions, we had to reverse some of those accruals. So as you get to the second half, you will see that year-over-year comparison being very different than what you saw here in the first half.

Okay. Thank you on that one. And then Oscar, now that you've had some time in the operator's seat, obviously you guys are taking your productivity targets up this year. Can you just highlight some of the biggest opportunities that you've noticed after being in the seat for six or seven months now, and what you're really targeting going forward?

You know, Brandon, it's not so much anything that I've noticed in the past month. And this has been a multi-year effort from CSX and in productivity is driven from basically all areas, specifically crew efficiencies, engineering and mechanical labor savings, fuel, improved car cycles is I think kind of a new initiative around service to customers that has been really, really effective. And so there's just a host of things around there. So nothing new and magical, just continued great work from that team.

Okay. Thanks, everyone.

Our next question is from Chris Wetherbee with Citi.

Good morning, Chris.

Great, thanks. Good morning. Maybe first one, on the export coal side. Could you give us a sense of what the split is on exports now between thermal and met, or at least what it was in the second quarter?

Chris, this is Clarence. It's 60/40 thermal. 60% thermal, 40% --

Second quarter.

Second quarter.

Second quarter. Okay. Is that likely, just given the demand patterns, to stay relatively fixed going forward?

That's a good question. Right now, for the first half, it's 50/50. You saw a fairly dramatic shift in the second quarter. You could see something similar to that in the third quarter.

Okay. That's helpful. And then just switching gears onto the productivity side, Oscar, just wanted to get a sense, if you could give us roughly where you are in the progress towards the $180 million or above through the first two quarters of the year?

We are significantly on the way there.

We have a good line of sight to it.

I have very clear and present sight of that.

Okay. All right. Fair enough. Thank you very much for the time. Appreciate it.

Thanks.

Our next question is from Chris Ceraso with Credit Suisse.

Good morning, Chris.

Thanks. Good morning. Just a quick follow-up on that. How much of the productivity gains are a function of the really strong performance versus stuff that's more permanent, like changes in your infrastructure, your headcount? In other words, if productivity in some future quarter erodes, will you lose some of what you've gained here?

It's a great question. I don't know that we break it out that way, but I can tell you that all the initiatives that we have are, in effect, designed to create sustainable advantage over the long-term. They are not near-term one-time kind of events. So if you look at for example our productivity per employee over the many years, it's been improving significantly. So I would say a majority of the things have long-lasting value and there is some, certainly--

-- probably the furlough retention board is probably the only really temporal.

There are a host of things like that over the course of time. But these things are designed to create lasting value. So I would sway to the majority of on our productivity is sustainable.

Okay. And then as a follow-up, just a question on pricing. I think Clarence said core same-store pricing was running at 3% to 4%. That's a bit lower than where you have been. I think even in Q1, you said it was 5% to 6%. Can you give us a little more detail on what changed, maybe some categories where you had issues, or what drove the apparent slowdown in your pricing growth in Q2 relative to the prior quarters?

The first quarter had a lot of impact of carry-over from the previous year's pricing, was the main driver.

We're still achieving above inflation.

Still achieving above inflation, and that's in the 3% to 4% range, excluding that decline we had in export coal.

So to the extent that Q1 had some carry-over, maybe the run rate going forward looks more like what you just achieved in Q2?

That's right, yes.

Okay. Thank you.

Our next question is from Justin Yagerman with Deutsche Bank.

Good morning, Justin.

Good morning. Wanted a point of clarification on the ag outlook. When you're talking about stable, is that year-over-year or sequential? And then I guess tagging onto that, I'm kind of curious as to how you think about ag or potential ag weakness in H2. You know, we've seen you guys react really nimbly to the coal declines that we've obviously seen in the back half of last year, first half of this year. How are precipitous changes or declines in ag volumes different from coal volumes in your network, and how can we think about that in terms of potential profitability drag?

Well, this -- Justin, this is Clarence. The ag comparison is on a year-over-year basis. If you look at the most recent data that the USDA has put out, they have taken the yield down, as you're aware, substantially. The official number is around 146. There is some forecast at 145. There is some that believe the number for yield per acre will come in around 140 to 142. So if it stays in that 142 to the 145 range, the crop this year, because of the acres planted, will essentially be the same size crop as last year, which would be the third largest crop on record. So it's down from where everyone thought it was going to be, but it's roughly about where it was last year. And what is impacting, in our view, the price per bushel on the corn is that demand for corn itself has gone up. Now, how that could possibly impact our cost? Most of our ag business, our grain business is run in unit trains, and as Oscar has demonstrated his ability to adjust the resources and the crews for the unit train networks, coal being the specific example, this without question is something that he does very well, that our company does very well. So we feel very positive about what will happen in our ag business here in the last half.

Okay. That's really helpful. Thanks, Clarence. Curious on autos, you know, when I think about the economy here, it definitely feels like we've got some sliding on the manufacturing side, and you're getting backfilled by housing and autos; and it just showed up in the car load data, not just for you guys, but for most of the rails. Are you getting any forward read from your auto customers as to what the outlook is like there? Can you give us a little bit more color over what your expectations are for the second half? I think that's probably -- if there's one point of susceptibility in the economy domestically, that feels like it's it. So I would be curious to hear your comments.

Well, our automotive customers, as we speak with them, are very encouraged going forward. As you know, we started off with a much lower North American light vehicle manufacturing rate than what we're currently at, at 14.9. Manufacturers themselves have voiced concerns throughout the year in many forums about the rail's ability to have the car fleets that are necessary to support the volume growth they anticipate having, which we and the other rail carriers in North America are working diligently, both in adding cars to the fleet, as well as sustaining these high velocity numbers that you're seeing from Oscar here to turn the fleet faster and to serve it. And if you look at the average age of the automobiles and light trucks in the United States, they are some of the highest numbers that they have been post-World War II. The ability to secure financing, and particularly longer-term financing in the range of six years, has proved to be positive for the consumer as they go to purchase automobiles. Chrysler, for example, are adding third shifts to their Belvedere plant. Hyundai at Montgomery is adding third shifts to their plant. So I feel nothing but positive things about the automotive industry as we go forward.

Great. And just -- sorry, quick point of clarification. I know I have to turn it over. You said the 3% to 4% core pricing includes or does not include the decline in the met tariff?

Does not include the decline in export coal.

So what would it have been with the decline?

It would have been much weaker.

Okay. Thanks.

Our next question is from Ben Hartford with Baird.

Good morning, Ben.

Good morning. I was wondering if you could talk a little bit about some concerns about the ILA dispute here, with the September 30 deadline, whether you're taking some proactive measures, whether shippers are addressing some of those concerns. Can you talk a little bit about the dynamics ahead of that?

Could you repeat that again, please?

Sorry. Just talking about the ILA, the port dispute here on the East Coast. I've heard some anecdotes about shippers being cognizant of potential stoppages here ahead of the September 30 contract expiration. I'm just wondering if you've heard anything to that end, whether you've seen some shippers on the international, intermodal side that have taken proactive measures to adjust freight flows ahead of any sort of potential disruptions that might surround that event.

Yes. As a matter of fact, you'll recall that the ILA gave a fairly inflammatory speech at the Trans-Pacific Conference a couple of months ago about the potential of labor unrest on the East Coast. Some, not all, of our customers have begun to make adjustments in those flows of freight coming to the East Coast. The East Coast ports have taken the position that there's no issues here that can't be worked out.

My own personal view is that I don't think it would be in labor's best interest to have a strike in the face of a presidential election, but we've seen no material changes in our traffic flows up to this point.

Good. And then into that, and assuming that there isn't a disruption, what are your expectations for the quote, unquote peak season as we go through the back half of the year in terms of a build relative to normal seasonality?

We expect a peak season. We expect it to be a slight peak season, not a big spike, but an appreciable increase, as we move into the fall peak season.

Great. Thanks for the time.

Our next question is from Jason Seidl with Dahlman Rose.

Good morning, Jason.

Good morning. How are you today?

Good.

I want to talk a little bit about the core pricing. Wasn't really a surprise to us, as our survey sort of indicated that, just before earnings season here. But as I think longer term about rail cost inflation, hasn't it typically run above 3% longer term as opposed to just sort of recently last year?

Yes, I think longer term, when we look at inflation-plus pricing, we're estimated to be somewhere between 3%, 3.5%, maybe 4% in certain years. So that is correct. This year, it's a little bit lower than it's been previously.

Okay. So with that backdrop, when you look at 3% to 4% core pricing, ex- what had to be done on the export side, getting to Chris' question, where has been the pressure points? And is it just competition from truck that's pressuring it? Is it the overall economy that's pressuring some of the pricing gains now? Could you walk us through that?

Well, my view is it's been the overall economy that's been pressuring some of the pricing gains that's in it. You know, pricing itself is fundamentally the law of supply and demand. There's been a lot of excess transportation capacity, not only on the rails, but in the trucks and in the barges and in the pipeline systems in America. And so there has been some pressure on that pricing as we've moved forward. So that would be one point. The second point would be that earlier in the decade, we had a lot of legacy pricing, particularly on our coal side, that was coming due. And that has now begun to manifest itself, and there's no new coal opportunities that's presenting itself in the utility segment of our business.

Okay. Thanks for the color there. My follow-up question. Fred, you talked about the accrual for incentive compensation last year sort of reversing in the second half of the year. Are we to expect then, in terms of a year-over-year comparison for this year to be higher than last year?

I think in terms of our labor line, and I think I outlined the two key drivers earlier, which is headcount we expect essentially to be flat going forward, and we expect about a $10 million increase due to the inflationary pressure and the salary increase for our union employees. I think if you start with this quarter as a base and you factored those two things in, I think you have a good starting point for what the third quarter will look like.

So Fred, just to make sure I heard you right, so that $10 million hit, does that include accruals?

I think I answered the question earlier around the fact that sequentially going forward, our accrual for incentive comp is essentially flat. It's really last year that's driving the year-over-year comparison.

All right. So it will be essentially flat, but year-over-year will look higher.

That's right.

Perfect. That's all I had. Gentlemen, thank you for the time.

The next question is from David Vernon with Bernstein.

Good morning, David.

Good morning. Quick question on -- for Fredrik, on clarifying the fuel benefit. You mentioned the $17 million lag. Was that the fuel surcharge revenue increase or the operating income benefit?

That was what we estimate the lag to be, which would be the -- which would be the operating income benefit. It happens to also be the same number as in Clarence's fuel surcharge change year-over-year.

Yes, so is that a revenue number, or is that --

My lag benefit is an operating income number.

But is Clarence's number a revenue number?

Clarence's is a revenue number. They happened to be the same number, two different numbers, but yes, $17 million.

Okay. So we have $17 million more revenue and $21 million less expense. Wouldn't that be $38 million, or am I doing the math wrong?

You have to think about volume and efficiency, as well.

Okay. Okay. So in the other question, just broadly on intermodal, can you comment a little bit around how the length of haul may or may not be changing the business, with the recent growth and change in the mix with the Maersk business and domestic growth. And then how you guys think about the amount of capacity that's being brought into the eastern market and how that will be affecting your pricing strategy or pricing opportunities going forward?

Well, I'm not sure that our length of haul has been impacted that much, because as we bring the Maersk business on board, a lot of it comes out of the west, and so it really doesn't impact the length of haul because of the interchange points. Our length of haul for the originating business on our core railroad essentially has remained fairly stable over the years, because of the lanes in which we operate. The additional capacity that's being brought on, I'm not sure that I understand your question. So ask me that again.

So you guys are building out your corridor initiative, your competitor's building out a corridor initiative. And if you add up the number of lifts that are going to be added or available to the eastern marketplace, it's actually -- it's a substantial increase and it's a substantial opportunity. But I'm just wondering how you feel about that amount of capacity coming online at roughly the same time in a weakening sort of consumer environment.

Well, we feel positive about that. And if you'll recall in our prepared remarks, we said there was an addressable market of, we thought in the east, of 9 million loads. That's in excess of 550 miles. So for example, we have an initiative we call H2R, highway to rail, in which we are sitting down with beneficial cargo owners and we're reviewing their portfolio of business and looking at what is adaptable to intermodal -- intermodal in a generic sense -- and what is adaptable specifically to CSX intermodal. And we've done that already with 56 different customers, and we have had a very high degree of success in converting both current users of intermodal and people who are first-time users of intermodal over to the product. So I think the capacity's pretty much in line with what the 9 million potential is.

Okay. So in that H2R program then, are you guys -- you guys aren't actually marketing to the BCOs. That's going through your service partners, right?

We do it jointly with our service partners, yes.

Okay. Great. Thank you very much.

Our next question is from John Larkin with Stifel Nicolaus.

Good morning, John.

Good morning, all. Question for you on the tremendous improvement in what I would call network velocity, or fluidity. Both velocity and terminal dwell improved over 10%. It was a little confusing when we talked about headcount being up 4%. I guess if you adjust out the people on the retention board, it's only up 1% year-over-year. Is there still some room if volumes remain roughly where they are to perhaps tighten down on the headcount a bit, or am I missing something here?

There is, in our mind, always room for progress and improvement. And so I would answer that question affirmatively, yes.

So there's room. And then could you describe, Oscar or Fredrik, the difference between putting an employee on retention furlough versus putting him on full furlough? Is there an economic cost to keeping them sort of ready to jump back into the force if needed quickly?

Yes, I just gave you a quick definition of what we do on the retention boards. It's kind of a designation for a contract employee that guarantees two paid days of service per week as opposed to a full furlough, obviously, where they are gone seven days. So that's the two-fifths, two-sevenths, I guess is the best way of gathering that economic thing. The benefit, as you know, is we can bring them back a lot more quickly than we can with the traditional furloughs.

And just to build on that, what Oscar just said, we're obviously monitoring that very closely to see what makes the most sense. If we have short-term changes in volume, we put them on the retention board, because we just trained the employees and brought them on and then -- but if we do think that there are longer-term needs to draw down the resource levels, we put them on furlough. And we monitor that very closely.

And you also get the attrition coming in, too. As attrition kicks in during the course of the year, obviously there's people that move off the furlough retention board to full-time employment.

Right.

So overall, we said our headcount for the rest of the year should remain relatively flat from what we have right now, obviously up or down depending ultimately on what happens with volume. But our best guess right now is it's going to be relatively flat.

Is there a difference in fringes based on whether someone is full-time, retention board, or furloughed?

When they are actually furloughed, John, they get four months of health and welfare coverage after the furlough. If they are on a retention board, they keep the health and welfare coverage the entire time.

That's very helpful. Thank you.

Our next question is from Cherilyn Radbourne with TD Securities.

Good morning, Cherilyn.

Thanks very much. Good morning. Just wanted to ask you a question on your outlook slide. If I compare that this quarter versus last quarter, you're still positive with respect to the outlook for about 60% of your volume, but there have been a fair number of changes in terms of the traffic segments that are characterized as favorable versus neutral, with export coal and chemicals moving up and three of the categories, metals, forest products, and ferts moving down. How should we interpret that?

Cherilyn, I would interpret it as normal market forces and changes throughout the year. The metals part of the business has started to show some decline both in the sheet side, although not related to automotive in terms of sheet, but related to the oil and gas industry with the number of rigs that's coming down in there. The forest products side, although, has been up and building products has been down in general paper side of the business. And then our fertilizer markets, as we said in our prepared remarks, we had actually expected a bigger first half than what we have. Lot of people sit on the sidelines waiting for the commodity prices to decline. That won't last forever.

Okay. And so would you say that things are a little more dynamic than usual in terms of market conditions, and is that impacting your ability to plan?

I would say the entire market is much more dynamic than usual because of some of the economic uncertainty you see as we approach the presidential elections.

Okay. Thank you. That's all for me.

Our next question is from Anthony Gallo with Wells Fargo.

Good morning, Anthony.

Good morning. Thank you. I see $100 million in operating income improvement through the first half of the year, but if I strip out the deferred gain, I get $61 million. How much of that was from productivity, the $180 million that you mentioned? How much of that was achieved in the first half?

I think you got a lot of pluses and minuses in there. You got inflation. You got productivity, obviously. To it's hard to isolate how much is what. But as Oscar indicated before, the full year is $180 million. He's got great line of sight to that. And so it's hard to isolate specifically how much of that $60 million was related to what.

But, Anthony, it's Oscar. We don't mean to be coy. The 180-plus, the plus portion is things that we're still finalizing and documenting. We will update you on that as we can, whenever that final number is. If you think of a ratable spread across quarters of that final number, I think that's a good way of looking at how we've achieved the productivity, first quarter, first half, and so on, henceforth. It will deviate a little bit from that. But I think a ratable spread is probably the best way of thinking through that.

Okay. I'll get back in the queue. Thank you.

Our next question is from Peter Nesvold with Jefferies.

Good morning, Peter.

Good morning. So I thought the operating ratio this quarter was particularly impressive, given the headwinds in coal. In the prepared comments, you mentioned a couple of times that export coal is going to be down in the second half versus the first half. I think there's some market perception that export coal is a lot more profitable. And so my question, my first question would be, is there any reason to believe that you should not be able to defend your OR as well in the second half as you have in the first half, given a decline, a sequential decline in export coal?

As I said earlier, I think both in prepared remarks and to a question, we have a guidance for the full year to improve our operating ratio for this full year, and we're not going to get into specific quarterly guidance or second half guidance. But we feel good about what we've done here in the first half. We got off to a great start. We're going to continue to try to drive margin expansion any time we can, but we're not going to give you a specific number for the second half.

Okay. Then my follow-up question is on intermodal yields, revenue per unit. So a little light, 2% or so in the quarter. How much of that might have been the timing of fuel surcharges? Does that differ in intermodal versus other commodity categories? How much of that might be length of haul or the new contract, or some other dynamic, such as truckload pricing? Thank you.

There were two major factors in it. Lower fuel prices and the business mix slowed the RPU growth in this quarter. So we had a higher increase in the international versus the domestic.

And then the other thing is you are -- I think you were alluding to it. You have a little quicker adjustment on the fuel surcharge for intermodal than you have on the rest of the business. So it just comes down a little quicker.

Thank you.

Our next question is from Walter Spracklin with RBC Capital.

Good morning, Walter.

Good morning, everyone. A couple clarification questions, really. First, on your guidance. When we look at 2012, you're guiding for growth this year. And I'm just curious, can you hit that guidance without the SunRail and tax benefits that you've incurred in the first half?

Well, we're not going to break down what is -- we're going to stick with the guidance that we have for the full year. The SunRail transaction is a transaction that we put in place because we think it's value accretive to CSX, and so that's part of our earnings picture for this year. It was part of the earnings picture last year, and it's going to be part of the earnings picture for next year. So we're going to stick with overall guidance that we're going to have earnings growth. Clearly, it's helping this year. Clearly, there are a lot of things that are negative this year. But given all of the things that are going on in the economy and everything else, we feel pretty good about what we've been able to accomplish so far, and we feel pretty good about what we're going to be able to accomplish in the second half of the year.

Okay. Also on guidance here for the 2015, you had indicated that your 65% OR at the time that you put it together did not include, of course, a significant drop in your thermal coal business. Do you need a full recovery to hit that 65%? Or if volumes stay reasonably within these levels for coal, how much -- I don't know if you can give a sensitivity or if you've worked the numbers in around current coal prices, would you still be able to hit your 65% if coal prices -- or coal volume stayed at these levels?

Well, we put out the original guidance a year ago. We had, like any company would do, given ourselves a little bit of a cushion to make sure we could absorb different things that occur along the way in such a long time period. Obviously, with the utility coal coming down as much as it has, that cushion, to a large degree, is gone, which is why we say that we still have line of sight, but it's going to be more challenging.

Specific to your question about utility coal, I think what we are expecting is that utility coal will stabilize. We're not banking on a significant recovery. It would be great if it did. But right now, we want it to stabilize and perhaps just come up a little bit from where we're seeing the run rate being right now.

If I could just build on that for a minute. The other thing, Walter, is when we were building that forecast, and obviously, that's for 2015. As you know, a lot of the EPA regulations were certainly going to impact a lot of the coal plants by 2015. What we're really seeing now is those have kicked in earlier, because of the gas prices. So we had already factored into that guidance the fact there would be a reduced coal burn, solely from EPA regulations.

That's very helpful. That makes a lot of sense. For my last question, I don't want to sound obtuse on this or anything, but on the pricing side, it sounds like 3% to 4% excluding the coal, but we were including it when it was going up. I would like to look at a number -- a lot of investors are very focused on your pricing, so they are very conscious to any kind of non-apples to apples comparison. And this is just perhaps for future reference, would really like to get that pure pricing same-store number which includes your entire business, not just areas that are weak, like export coal. I'll just throw that out there. I'm not sure if you can provide any color on that.

Our quarter 1 and quarter 2 pricing was very similar, with the exception of export coal. That's where I would like to leave it, if I could.

Fair enough. Okay. Thank you very much.

Our next question is from Jeff Kaufman with Sterne Agee.

Good morning, Jeff.

Good morning. Thank you, and congratulations in a real challenging quarter.

Thanks.

Just two quick questions. What are you paying today for diesel fuel?

I don't have that in front of me, what we're paying today. But obviously, it's come down a little bit further from where it was. I think the reason day sales have ticked up a little bit. I don't have it in front of me.

Okay. I'll get that from you off line then. Are we talking about a number south of $3?

I don't have that, but we can get that to you offline.

Okay. Second question, which kind of backs up on an earlier question. When I look at the change in yield on the coal business, some of it's length of haul, some of it's pricing, but an awful lot of it's mix. Can you help us understand, going from 40/60 met to steam on export to 60/40, how much that might have affected the yield comp versus what was going on domestically?

Well, I don't have a specific number for that, but I would tell you that it's strong, because the utility coal is moving at a higher RPU and the thermal part of the export coal is moving at a lower RPU than is the met. So when you see that mix increase with the thermal, it's going to significantly impact that RPU, depending on the percentage that it -- that the mix changes.

So I guess the point would be, if you're talking about staying at more of a 60/40 rate going forward and maybe domestic utilities bottomed, we don't know how quickly it recovers, then the incremental damage to the mix effect on yields has probably occurred at this point, maybe get better, who knows?

That's right.

Okay.

Yes.

Jeff, just getting back to your fuel question, based on the numbers we have right now, what we're looking at, it's about $2.97.

Okay. Thank you very much and congratulations.

Thank you.

Our next question is from Mark Levin with BB&T.

Good morning, Mark.

How are you? Just a couple quick questions, as they relate to coal. On the export side, and kind of thinking about this in 2013 maybe versus 2012, API 2 prices right now are 90, and when you look at the net backs, back to the central App guys, obviously it's very hard to make coal move profitably into Europe. When you think about 2013 exports, or even second half of the year, how does where API 2 prices factor into it? Can the exports sort of sustain themselves at 40 million-ton plus levels at an API 2 price consistent where we are today?

As we said earlier, most of the coal that we're selling in the thermal market that's being governed by the API 2 index in Europe was sold last year or the year before in forward curve contracts against that. So we feel pretty confident about the numbers that we've given you for 2012. It's just too soon to tell for 2013, because the market is volatile, the mix could change between thermal and met, something could go on different in Asia. So toward the end of the third quarter, first of the fourth quarter, we'll have a clear line of sight into that.

Got it. And then the second question has to do more with your met exports. When you look at the lower quality met grades, the high-vol Bs, even some of the PCI stuff, a lot of the central App guys are not able to get prices that cover their cash costs, given the weakness in those markets. Have you seen that manifest itself in export volumes? And again, how does that, when you think about your mix in terms of what you're exporting from a quality perspective on the met side, how exposed are you guys to the lower quality met coal grades versus some of the higher quality met coal grades, which will obviously find a home regardless of what the overall backdrop looks like?

Well, as I've said earlier, a lot of our export coal now is coming out of northern App as much as out of central App. And a fairly high quality is coming out of the lower Appalachians. So our exposure mainly is in the mid- and high vols.

Great. Thank you very much. Appreciate it.

And thank you. Our final question will come from Scott Group with Wolfe Trahan.

Good morning, Scott.

Thanks. Good morning, guys. Clarence, can you tell us what percent of the business is moving in association with one of the rail inflation indexes? I guess I'm just trying to understand, how much of the deceleration in yield growth is because inflation indexes are moderating and then how much could reaccelerate, assuming inflation reaccelerates?

I don't have a number that I could give you off the top of my head that's with a high -- you're talking about export now, or are you talking about all business?

I'm just talking about what percent of the total business is based on either the RCAF or the [ALIF] or one of those inflation indexes that have moderated this year?

It's probably 30%, in the range of 30%, 25%, 30%, is moving on the -- on one of those indices.

So part of the deceleration in yield growth is just because inflation has moderated?

That's correct.

Okay. And then on the coal side, when you talk about the export growth slowing, is that because the export steam coal is slowing, or are you expecting met to take another step down? And then overall with the coal business, if exports are moderating and utility domestically is stabilizing, do you expect overall coal volumes and yields to be better or worse in the second half or the first half?

I think I understand the question. Ask me that one more time, make sure I got it.

Okay, sure. So I guess there was two parts to it. One is on the export side, are you expecting the utility exports to get worse or to slow or the met exports to take another step down? And then overall with coal with the moving parts, do you think that coal volumes and yields are better in second half or first half?

Well, I would -- I expect the decline in the export will come from the met side of the business. Anything I told you for the second half right now on that question would be a pure guess, because you're going to have a mix coming in of the utility coal start to pick up, which will carry a higher RPU. You'll have the impact in the export of some of the met going down and the thermal staying the same. So I'm just unclear of what to tell you, to be honest with you.

Would you say coal yields are positive or negative in the back half of the year?

I think they -- I don't know. I'm unclear on that. But look, if I had to make a bet, I would feel positive about what coal looks like in the second half.

Fair enough. Thanks for the time, guys. Appreciate it.

Thank you, Scott. Thank you, everybody, for your attention and your time today.

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