聯合太平洋集團 (UNP) 2003 Q4 法說會逐字稿

Please be advised that the quality of the following transcript falls below CCBN's acceptable quality threshold due to poor audio and highly accented speech. This file has been reviewed to remove as much indiscernible language as possible.

Good morning and thank you, brave souls, for joining us this morning for our fourth quarter earning's release. With me this morning are some very familiar faces: Ike Evans our President and Jim Young, our CFO. Jim will discuss the financial performance and Ike can give you some perspective on what to expect in the railroad this year. We will also ask Dennis Duffy, the head of our operations and Jack Koraleski, our Chief Marketing Officer to help fill out the story this morning.

As we close out 2003 we are starting a new chapter in the U. P. history books becoming a pure railroad once again and that was made possible through the IPO of our trucking company, Overnight. Last year the pick up in the LTL fundamentals and the Decertification of the Teamsters Union at Overnight all combined to produce a very successful transaction for us.

Leo Suggs and his management team are now running a great stand-alone company in Richmond, Virginia, and we wish them all the luck in the world. The combination of the IPO and earnings from the continued railroad operations resulted in total earnings per share of $2.12 in the fourth quarter of '03 versus $1.41 a year ago.

Now you will see from the slide there are several different elements that make up those numbers and Jim is going to go through the details with you. I would like to focus on the two bars on the right-hand side of the slide and that is that the railroad saw 5% growth in operating income during the quarter from $562 million in '02 to $589 million in '03. We are encouraged by this gain as the fourth quarter was the only quarter with really meaningful growth during the year. We know that both external and internal factors prevented us from an even better performance.

Internally we were working out manpower and resource shortfalls that resulted from the conservative labor assumptions we made going into '03. We estimate that this issue reduced operating income by something like $30 million in the quarter through a combination of operating inefficiencies and lost revenue opportunities, primarily with grain and intermodal shipments. Externally high fuel costs continued to pressure the bottom line adding about $28 million to expense for the fourth quarter.

Despite the challenges, we still reported a record revenue performance with nearly 5% growth for the quarter. Obviously one factor that contributed to this growth was last year's ILWU court disruption which you may remember took place on the West Coast. But even taking Intermodal out of the equation we would still have seen 4% growth in commodity revenue.

In fact, all six business teams had revenue growth for the quarter something we have not seen since 1999. We think this is a good sign that the economy is improving and Union Pacific is well-positioned to benefit from that improvement.

Much like the fourth quarter there are a number of factors that need to be considered when comparing the full year over year results. Now I will let Jim do the heavy lifting here in terms of the financial detail, but unfortunately we did see a decline in EPS from continuing operations between 2002 and 2003. That decrease is due, in part, to fewer real estate sales an couple of tax adjustments that we enjoyed in '02. Of course, the other major obstacle was fuel price which added $255 million in expense to '03.

As the year progressed we did a better job with our fuel surcharges but we've still got room for improvement there and we would certainly prefer to have the lower fuel prices rather than depend on the surcharges.

I'll return at the end of the presentation to wrap things up with some closing comments but at this point let me turn it over to Jim for a review of the financials. Jim?

Thanks, Dick, and good morning everyone. Before we get started I wanted to make certain you refer to the cautionary statement at the end of the press release. Understand that the statement applies to any forward-looking comments that we make here today. So please read it and understand it.

During my presentation I'll be referring to both the press release, financial statements, and slides so you may want to have both available for reference. I'd like to start with the slide that takes you through the fourth quarter EPS. Dick gave you the numbers but I'll break it down a little more.

One item we'll be referencing throughout this year is income from discontinued operations, our sale of Overnight. On the table outside the room and on our website we have amended the 10(K) and 10(Q)s that have restated Overnight as discontinued operations, so you can use that to kind of adjust your models.

So starting with the fourth quarter comparison we need to take Overnight out of the earnings for both years. Three cents per share in 2002 and 84 cents this year. The 84 cents per share this year is made up of Overnight's October earnings of 3 cents and the gain from the sale of overnight on October 31 of 81 cents. Our EPS from continuing operations was $1.28. That's down about 7% to the $1.38 we reported a year ago.

You'll remember that the fourth quarter last year included a large real estate sale to Bella Transit Authority and large tax adjustment. If you take the variability out of both years and you look at taxes and real estate and focus on year over year performance, the real measure in fourth quarter is the 5% increase in operating income which was the first time we had seen any meaningful strength all quarter.

Turning back to page one of the financials of the consolidated income statement we had 5% growth in our operating revenue during the quarter which we converted into a 5% improvement in operating income. If you refer to the slide here other income totaled $46 million. That's up a little bit from the prior quarters but down $62 million from a year ago, the driver being the Bella ETA sale that totaled $73 million a year ago.

I had mentioned in our third quarter call that we thought we had some potential for upside here and we did have some real estate deals close late in the year. Also included in that number we had a charge of $15 million for the redemption of the final $500 million traunch of the $1.5 billion tides. On the full year basis other income is down almost $250 million from year ago; in addition to the V. T. A. sale we had the Utah transitory sale. That was about $141 million. Together they added $214 million to last year's income.

On the flip side for the full year in 2003 we had $45 million in additional costs for the full tides redemption. Looking out to 2004 other income will probably come in somewhere between 50 and $100 million for the full year. It's obviously volatile and the real estate market is looking a little bit weaker at this point.

Turning back to page one of the financials, interest expense is down $20 million, or 13%. It's due to the redemption of the tides, lower debt levels, and favorable interest rates. Our fourth quarter average debt was $8 billion compared to $9.2 billion a year ago. Our tax expense was up about $20 million from year ago on a lower tax base.

You'll remember that last year we had a take settlement which gave us roughly a 29% effective tax rate in last year's quarter. This year's effective tax rate came in a little lower than originally projected at 33.6%. That's primarily due to lower state taxes during 2003. I've already talked about Overnight and income from discontinued operations. I should point out that the change in fully diluted share count is down almost 18 million shares from a year ago. That's due to the full redemption of tides.

Looking at page two of the financials, reporting our full year results, operating revenue's up 4%. Unfortunately, though, fuel costs were up $255 million for higher prices. Operating expenses up 6% resulting in a 5% decline on our operating income. We already talked about other income.

Interest expense for the year came in at $574 million. It's down $15 million from a year ago. Interestingly if you go back to 2000 we paid almost $723 million in interest expense. So the last three years we cut the interest cost by $150 million.

Full year effective tax rate came in at 35.5, that's about a half a point higher than last year. The accounting change, remember that in the first quarter we recorded the changes associated with FAS 143 that added $274 million after tax and for the full year recorded the 604 compared to then 505 a year ago.

Page three summarizes the railroad's revenue performance. Jack is going to be talking to you about the details. As Dick pointed out we really had a relatively good year where we had all six business groups for the quarter were up and also fourth year.

Slide three in your package; we have a break down of fourth quarter average revenue per car. We've broken it down among the three components which is fuel surcharge, pure price and then mix. In fourth quarter mix reduced our total average revenue per car roughly $3. In part that's the effect of the 9% increase in Intermodal volume. The fuel surcharge revenue added about $11 per car. Remember this includes both the surcharge program and RCF, the contract [indiscernible]. I'll do the math for you but you'll see here we had a pretty good recovery. We recovered about 80% are of our fuel costs in the fourth quarter. Don't put that in next year. A big part of that is timing and the way these contracts work.

I'll talk in a minute about our outlook for fuel recovery for next year. Pure price came in about $10 per car about 1% which is consistent with what we have been saying here for the last several years.

Page four of the financials gives the break down of the railroad operations. One item to mention on revenue although our commodity revenue was up 6%, total operating revenue was up 5%. Our other revenue line was down about $12 million. A little bit lower switching revenue; a little bit less in our subsidiary revenues. That trend I think is more exception for fourth quarter. We should see our results flat to slightly up when we look to next year for other revenue. On the expense side we've got 5% growth in total expenses. Fuel obviously is a big piece as Dick mentioned. We also incurred some costs as a result of our service issues.

If you refer to the slide, salary and benefits were up 5% for the quarter. What I've tried to do here is give you an apples to apples comparison here. If you take a little closer look at the slide, 2% of the increase is attributed to the accounting change; FAS 143, on an apples to apples comparison our labor costs were up 3% for the quarter. You will also note during the quarter we saw a 5% increase in gross ton miles. Our average employee count was down 1%. That drove some good productivity for the quarter.

Unfortunately our labor costs were inflated about ten to $15 million from reduced velocity although a year ago you may recall we had some higher costs from severance and other compensation that more than offset this increase.

Looking at 2004, our employee count is really going to be dependent upon business volumes. We will continue to reduce positions through technology, process improvements, but as we've said our overall ranks could grow, particularly when it comes to train crews if the business demand is there. Our unit cost, though, will continue to decrease on a year over year basis.

Another item that will add some one time cost to this expense category in 2004 is the closing of our St. Louis office. In May of this year we will begin moving roughly 1,000 employees from our St. Louis offices to Omaha and into our new headquarter's building.

In total we'll add about 40 to $50 million to operating expenses for severance and relocation costs that will probably hit the second or third quarter during the move. This will not have, though, an impact on our EPS. In fact our EPS for the year should be flat because---should offset the cost of the relocation because of state tax benefits and improved efficiencies.

?Our rent expense is up $4 million in the quarter, primarily reflects Intermodal volumes. Depreciation down around $17 million. That's a function of both the accounting change we implemented back in the first quarter and as you'll recall the second quarter last year we had a new depreciation [inaudible] we still need to cycle here.

Looking out to 2004 our depreciation cost should be up about 5% for the year. Fuel and utilities up $41 million. Our average price per gallon in the fourth quarter came in at 89 cents versus 81 cents a year ago. That added $20 million to our fuel prices.

On a full year basis we paid an average of 19 cents more per gallon. We came in at 92 cents per gallon for full year compared to 73 cents the prior year. That's the highest price we've paid in the company for fuel in 20 years. We added $255 million to our expenses.

One positive, if there are any related to higher fuel costs, of our new fuel surcharge program. As fuel prices stay high in 2003 we became much more aggressive in our search of fuel as you are charges and implemented a broad-based program in June. As a result we recovered about 45% of the increase in fuel prices for 2003.

When you look to this year, 2004, the current outlook is very volatile. For the first first quarter we can very well match last year's quarterly average of 1 dollar per gallon. During the first couple weeks of January we paid around $1.10.

We will continue our efforts to reduce earning's volatility through our various fuel recovery mechanisms. We expect improved recovery in 2004 with a good chance of exceeding the, exceeding 50% for the year. For 2004 we've got about 9% of our consumption covered by costs [inaudible] with entry point of around 90 cents.

Moving back to page four of the financials, material supplies down about $3 million. That's consistent with what we've seen all year. Part of that is offset in other purchase services. On the purchase services and other line item we are up $38 million.

To start off with and again if you look at the slide, down about $3 million from FAS 143. From there we have several items that contributed to increase many of which are volume related. Contract services were up $12 million. That's locomotive and freight car maintenance programs primarily due to volume. Intermodal volume costs were up 10 million. Again very strong Intermodal this year. Things like ramp operations costs. Although part of our velocity slow down did hit this line item here: limo lodging up about $5 million volume and the joint facilities around $4 million which is timing.

If you look at this category our velocity fell off here fourth quarter added around $3 million to this line item. Looking ahead to 2004 if volumes continue strong and with relocation of our employees from St. Louis this line item could be up around four to 5% for the year. Relocation costs will account for about a third of the increase with higher locomotive maintenance, Intermodal volumes and higher state and local taxes making up the balance. Most of the increase will be front end loaded with our first quarter up around 10%.

The larger first quarter increase reflects getting a jump start in our locomotive program with anticipation of increasing volumes through the year and the timing of joint facility costs. The way to look at this in a full year we are looking four to 5 percent, first quarter around two. You can look at the math that says the rest of the year you can looking for around a two to 3% kind of increase.

Page four of the financials here, the operating statistics are at the bottom of the page. We already touched on several of the measures. [Force] count is down about 10%. Our operating revenue flat even with reduced loss in higher energy costs.

Page five of the financials--our year end balance sheet---a couple observations. Feel pretty good about how things look at year end totally remove the tides from the books $1.5 billion, our all in debt to cap ratio which includes the [indiscernible] is under 45%. By the way that's now better than where we were when we started with the C. and W. merger so we made some progress there. We also ended the year with $527 million of cash on the books.

Page six is the statement of cash flows. First thing to note here is that we restated 2002 cash flow to show Overnight, the gain on the sale of Overnight is shown as discontinued operations. Again, our cash for, cash from operations is up about 10% for the year, $2.2 billion compared to two four.

You will also note that there is big change in the other line item on the cash flow statement under the, cash from operations, primarily attributed to last year's large real estate deals. What happens, we take them out of income, shift them down into asset sales and also you remember we made a pretty substantial [inaudible] to pension last year. Slide eight shows you our free cash flow after dividends. We came in at $524 million.

We had given you guidance of four to $600 million all year so we came in on a little bit higher side. You should note that the $524 million does not include the $620 million we received from the Overnight deal. So we generated over $1.1 million in free cash. Other than debt we did use cash to make $100 million contribution to the railroad pension fund during the year.

As I've said here we look to the future here; I think you need to count on 50 to $75 million of cash put for pensions going forward. Our total cash capital during 2003 came in at 1.75 billion. You need to add about $188 million of capital leases that you will note down at the bottom that brings our capital down to about 1.9 [inaudible]. That concludes our financial discussion. I will turn it over to Ike .

Thanks, Jim, and good morning. As Dick mentioned we've asked Dennis and Jack to participate in our call this morning to provide more details about the fourth quarter and give you their outlook.

Before they do that I'd like to take a few moments to look at our company's performance over the last several years. Since 2000 we've grown our revenues at a 3% compounded annual growth rate. We've increased productivity. In fact for the first time in our history we moved over 1 trillion gross ton miles during 2003, up almost 5% from last year's record.

Our customer satisfaction index has risen from 75 to 78. It could have been much stronger this year with a better second half. We've accomplished this with our economy pretty flat the last couple of years. How have we done this? A consistent approach to our yield strategy and quality. Yield means different things to different people.

At Union Pacific it means leveraging our assets to produce profitable top line growth. It's partnering with our customers to design and deliver transportation products that make them more competitive. It's penetrating new markets to innovative service offerings to compete with or even complement truck services. It's providing value pricing that reflects a premium for the quality service offered and it's performing all of these services in a cost efficient and productive matter. Importantly we are doing this at the backdrop of the best rail franchise in America. And as you'll hear in a few moments, this combination positions us for continued success in 2004.

Looking forward the environment is favorable for Union Pacific and for rails in general. Current economic expectations for this year is opportunity for significant growth. The key driver of that revenue growth is truckload conversions.

Last year we converted roughly 225,000 truckloads in the Union Pacific car loads. This business came from auto parts, cheese, wine, rock, lumber, just to name a few. So it's not as straightforward as going out and signing a big contract to someone like GM or [inaudible]. It means putting feet on the street. We've had great success introducing new products and services.

We are not stopping there. For 2004 our research has identified a $500 million market for [inaudible] manifest customers. Many of them used to ship on rail.

We created a business development team to bring that business to the railroad by offering a variety of transportation options, [inaudible] tracks Intermodal service and transloads indoors for old and new customers. Another potential conversion opportunity comes from the trucking industries new hours of service regulations.

While it's too soon to understand the impact we do know that rail transportation is more economical than truck. Truck capacity is already constrained due to driver shortages and increasing cost. Highway congestion and environmental concerns favor rail transportation. We are leveraging it's possible that these new rules can strengthen our position.

On a year over year basis our customer satisfaction measure was flat and our service delivery index fell off a little. Neither is acceptable. Our goal continues, measurable improvement that is evidence to our customers. Our cost of quality measure suffered as well.

Although we saw an overall improvement it was impacted by the same factors that challenged our customer satisfaction results. We are committed to strong improvement this year. Dennis is going to share with you some of the initiatives directed at improving our quality of service.

This year with greater optimism in the economy we are committed to maintaining an adequate supply of each of our five critical resources. We have processes in place to insure that continues. You heard us talk before about our locomotive freightcar strategies--upgrading our fleets to handle, we also shared our plans to maintain a quality infrastructure that supports our growth initiatives.

At our analyst meeting in St. Louis we talked to you about our aging work force. When we look to the future the combination of attrition and business growth could require annual hiring of around 3,000 employees. Even offsetting some of this with productivity, productivity this represents a major challenge to attract and retain quality people.

As a part of that critical resource---people--our employee strategy to make sure we have the right people in the right place at the right time. The right people means maintaining a pool of quality job applicants for every position. To do this we are using innovative marketing materials to improve [inaudible]. We are developing partnerships with local agency to finds better candidates faster at lower cost per [inaudible]. We are using the process [inaudible] already working for the company [inaudible]. The right time means reducing cycle times for both hiring and training.

On the hiring front we reduced cycle time by 25% through an automated hiring process and our revamped hiring schedule that insures a steady supply of candidates. From a training perspective we accelerated transition of classroom to the field through [inaudible] training. Finally the right placement is developing an accurate manpower planning model.

This fall we fine tuned our quality process used to determine our [inaudible] based on historical attrition rates, business demands, and productivity level. We believe these are the right steps towards insuring that Union Pacific maintains a high quality work force [inaudible].

In fact we were recently recognized by Work Force Management Magazine as the winner of their [inaudible] for efforts to standardize and streamline our hiring process. Our challenge though is to continually improve our processes to be prepared for tomorrow's changing demands.

Before we adapt to the yield strategy in 1999 we did an evaluation of the market and assessment of its potential. We concluded then and what we continue to believe today that our franchise has the ability to grow profitably.

We also believe that we will continue to improve productivity and quality across all areas of our company. The success of our company ultimately be measured by the strength of our financials but that's really one piece of it.

A strong and growing Union Pacific will help our customers fulfill their transportation needs. Our dynamic company can be exciting challenging work place and rewards it's employees for a job well done. Union Pacific is that company. Our time is now. Dennis?

Thank you, Ike, and good morning. I'd like to start today with a quick review of some operating metrics. At the analyst meeting in St. Louis we discussed the various factors such as cruise, capital maintenance and R.C. L--remote control locomotive--that were impacting our operations. As the slide illustrates we continued to be challenged in October and November as we moved the record volumes across our system.

But as our action plans relative to crews and locomotives take hold we are seeing improvements, and our momentum is building as we move further away from the holiday shutdowns. The January numbers show and represent our forecast including the impact of the holidays.

Our latest seven-day average train speed is running at just under 18 miles per hour and our system dwell is about 27 hours. The seven-day recrew rate is under five percent, all positive indicators. The plan is to extend these trends and improve our metrics consistently over subsequent quarters; by providing improved service we will not only increase customer satisfaction but drive out millions of dollars of failure costs that Dick talked about.

Let me describe some of the initiatives underway to insure the continuous improvement. As Ike explained we are taking several aggressive steps to eliminate future risk in the work force. In addition to the planning, hiring and training initiatives he mentioned we are also looking at ways to productively leverage the work force. Let me give you just a few examples. We are currently using remote control locomotives at 50 of our terminals, serving 2700 customers and saving about 680 engineer positions. By the end of 2004 we will nearly complete our roll-out saving another 600 plus jobs.

Our initiatives are reducing nonproduct true starts, including recrews and dead heads through better application of quality principles and maintaining a better balance across our network. And we are working on innovative labor agreements to enhance weekends and holiday protection, improve the availability and utilization of the labor pool, and to address specific customer requirements with customized service.

In addition to employees, locomotives are another of our critical resources that you saw. Through our strategy of fleet modernization and standardization we've seen great results.

Since 2000 the critical reliability measure---average miles between failure event---has improved by a third. During this time we also reduced the horsepower required to get the work done by 7%.

Looking ahead as we increase very well lost locomotive productivity and availability will continue to improve. One mile per hour in system train speed generates 200 to 250 locomotives, and we are applying lean principles in locomotive dwell management to create demand pull at our major terminals and to eliminate bottlenecks in the servicing process and let me give you just my layman's definition of lean. It means removing constraints to balance the workflow and increase the through productivity with fewer resources.

Finally our on board technology will continue to improve our predictive maintenance capabilities, helping avoiding up productivity shop time, expensive overhauls and over the road failures. Our physical plant continues to benefit from a robust capital program.

During 2003 we installed 4.6 million ties and we're planning a similar program this year. These improvements drive down speed restrictions or temporary slow orders, improve overall velocity, and drive service reliability.

Through improved maintenance planning we are also reducing unit labor costs while at the same time minimizing the disruption to train operations by conducting multiple work events simultaneously.

We are also using better materials and technology that lowers the overall stress state of our infrastructure. This equates the longer asset life, less wear and tear with increasing tonnage and fewer maintenance interventions, a critical factor as volume continues to increase.

These are just a few of the reasons that we are able to haul that trillion tons of gross ton miles that Ike talked about earlier and we continue to identify projected bottleneck areas for capacity improvements; thereby insuring that Union Pacific is ready to handle tomorrow's freight demands.

In 2004 we are adding main line capacity in three key areas where our growth opportunities are the greatest. In the central corridor, our main west east route we are focusing on former C. and W. territory across to Iowa that has an antiquated signal and control system.

This is a gateway for Eastern Coal, Industrial Products, and our growing Intermodal business. On the southern tier the focus is on the former SP sunset route west of El Paso which is currently one-third double track.

The plan is to take this up to nearly 60% percent double track over the next three years. This route also feeds key markets to the Chicago, Memphis, Houston and New Orleans. The final corridor is the Chicago, Texas, Mexico route, where we will focus on upgrading single track segments in Illinois and Missouri, to facilitate growth in autos, auto parts and Intermodal.

The strategy employed here is a well coordinated pay as you go approach that addresses the bottlenecks in order of greatest pay off. The 4th key area is safety and security. We had a solid year in 2003. The key metric in employee safety is personal injuries. We had our best year ever in the history of U.P. It was a 19% improvement from the year before.

We measure customer safety improvements in the form of service interruptions caused derailments. Last year we had 10% fewer incidents and saved $25 million in failure costs. Public safety is primarily grade crossing accidents where we again made a solid 9% reduction in 2003 and continue an overall five-year improvement trend.

Looking ahead we will continue to improve employee safety through better education and training, expanded use of the Web and simulator trading are just two of our key initiatives.

At U. P. we feel strongly that a healthy employee is a safer employee. Smoking cessation, weight management and exercise programs with more than 500 system-wide sponsored health facilities are principal ways we will promote work place wellness in '04.

On the customer side of derailment prevention we are leveraging acoustics and laser technology to detect potential failures in passing trains before they occur and we also reinforced a very focused security strategy aimed at minimizing risk to our rail operations.

Since 911 tighter security has become a standard part of our daily operation. Among several actions, we've restricted access to our yards, shops and other critical facilities using systems and technologies including biometrics, and we've created a redundant back up for all of our dispatching operations, crew calling and other vital systems. If a disruption does occur we can recover in a very short time. The fifth component of our 2004 operating strategy is improving organizational effectiveness which we define as doing the right things the right way the first time.

Applying the six-step problem solving process in every improvement productivity initiative, allowing managers to spend more time in the field through our 8020 initial that I mentioned in St. Louis in November. We are reducing office bureaucracy and mobilizing our managers through the use of computers and wireless communications. Leveraging Six Sigma to reduce the failure cost. We have completed more than, the 65 projects and we are working on several more aimed at process improvement productivity.

And finally applying the lean manufacturing concepts I referred to earlier to select areas in our operation specifically Intermodal ramps and locomotive servicing. We think this offers great promise in reducing inefficiencies and improving throughput.

As Ike said earlier we are not satisfied with our performance last year but we are committed to do improve both the equal of our operations and the reliability of our service in 2004. Our operating plan is driven by the marketing goals that Jack is going to discuss and we are optimistic about the future and improving economy. We plan on being ready to leverage that growth into profitable business. Thank you. Jack?

Thanks Dennis, and good morning. Good to be here this morning but I have to tell you it's even better to be finally looking at an economy that looks like it's coming back to life for us.

Our fourth quarter revenues would suggest that we really reached a turning point and I will spend a couple minutes and take you through those results, talk about what were the key drivers from each of our six businesses, and give you some insight on how we see 2004 shaping up. In the fourth quarter our carloading strengthened as the overall economy heated up.

You'll recall in the third quarter our [inaudible] were basically flat and that's pretty much the story that we saw for the first three quarters of 2003. You can see that on the yellow bars on this chart. The blue bar shows what happens to the fourth quarter. It represented a real demarcation for us in terms of our overall loadings. They were up 4%.

The chart shows that our largest growth was in Intermodal and we did see Intermodal business pick up in the fourth quarter, even when you consider, though, that that 9% includes the year over year impact of the ILWU lock up.

The real good news story for us is in the industrial products business. Industrial products loadings were strong in nearly everyone of those groups---stone, sand, lumber, gravel, paper, steel, the whole shooting match.

And we are really happy to say that as we have made the transition from 2003 to 2004 that demand seems to be hanging right in there with us so we are feeling pretty good about that.

The other piece of good news is it wasn't just our volume that was up. This slides shows you that same fourth quarter loadings growth but I've also added now the fourth quarter revenue comparisons and you can see, people ask us all the time, how is your yield strategy, is it holding up? And I think this really answers the question better than anything we could say.

Revenue grew 6% on a 4% increase in loadings. It's reflecting our focus on price improvement, our ability to implement the new fuel surcharge, but it's also our new product strategy and the fact that each and every one of those products is able to command a better price in the marketplace because of the performance and service quality that's gone into the planning process.

Fourth quarter we had full year, fourth quarter and full year 2003 had a number of records for us. First of all we set new full year records both in carloadings. We passed 9.2 million, and also commodity revenue at just over $11 billion. We also set revenue records in five of our six businesses. You can see them listed there, energy, Intermodal, auto, industrial products and AG products.

Again in terms of our success of our yield strategy we were able to capture about two-point a price half of that coming from the fuel surcharge and half of that coming from net price increase. That was in an economy that was pretty soft for the first three quarters of the year.

Let me take you through each one of the six businesses and give you some of the feel behind what drove 2003 performance and also what we are looking for in 2004. In AG products we saw strong grain export that was driven by our alliance work with the Canadian Pacific in moving grain over East Port to the Pacific northwest but it was also strong wheat movements to the Gulf ports. We experienced significant increase in volumes to and from Mexico, a push for import beer. We had an aggressive grain export to Mexico and strong shipments of [inaudible], rice, and in addition this year's sugar beet program for us was really huge. It was about 50% larger that we had seen in 2002.

Looking ahead to 2004 we see ethanol as being a big player for us with nearly 30% growth as we work to be able to bring western, West Coast opportunities to light as well as working in conjunction with both C. FX and [inaudible] on East Coast opportunity.

Our bread and butter grain business is our domestic franchise and it's shaping up good for 2004 with long haul movements for feed grains to Texas, California and Arizona. Export demand that continues to show some signs of strength for us with a focus on wheat to the Pacific northwest and also feed grains to Mexico.

Last not least with our rehab and new refrigerated boxcar fleet we are going to add a couple new origins and destinations, and we are looking for a good strong, healthy year for our express lane product. Our automotive volumes were impacted by slow vehicle sales for most of the manufacturers and that kind of continued the trends we had seen for the last couple of quarters. Our share gains with both Nissan and General Motors helped us to offset some of that market sluggishness.

In the year ahead the question is how soon account auto manufacturers between us from incentives and really start to gear up in terms of both sales and production and since we are the largest rail transportation supplier their estimate right now of vehicle growth, vehicle sales being up one to 2%--that should be a big part of our automotive growth next year. But on the other side of our business which is the parts business, we are going to stay absolutely focused on growing our parts business.

We are going to continue to work with manufacturers to develop transportation solutions that will allow them to cut costs and take advantage of our automotive network and that's the whole story behind our highway conversion, to take that business off the highway, save money for our customers, and deliver efficiently and effectively [inaudible].

Our chemical business had its strongest quarter of the year despite the high natural gas prices that had significantly reduced the chemical industries's production rates. Looking forward we are anticipating moderate growth based on an improving economy and stronger industrial production. We are going to continue to focus on the expansion of our pipeline services. We will add some new origins with transflow. And we are also going to be focused on value-added services to achieve an above market growth rate in our chemical bills.

It's important to note, too , that if the continued high feedstock prices exist we stands ready to help our customers which we showed you in St. Louis with [inaudible] to help them redesign their transportation to an import network rather than domestic production, and we are making some good inroads there, and that should help us in 2004 as well.

With respect to our largest segment of business, our energy business, 2003 was the best year ever for our energy group. It was a record-setting year for Powder River Basin and it tied the record that we set for Colorado Utah production in 2001. Demand was strong throughout the second half. It looks like it's going to be strongest especially for Colorado and Utah [inaudible].

Powder River Basin looks to be essentially flat for us this year. We'll have growth from existing customers in the new Omaha public power district contract and that will offset the volume losses from [inaudible] and also from Georgia power and we are going to continue to progressively pursue the development of eastern coal opportunities for western coal with our partners. Industrial products as I mentioned earlier was strong across the board. Housing starts and low interest rates continued to drive lumber volumes.

The improving economy drove industrial production higher and with it the demand for steel, scrap steel, and also paper board. Stone and cement business was strong, favorable weather conditions, strong demands for construction in Texas. In fact in the fourth quarter we set a record in each month of the fourth quarter for rock loadings.

Looking ahead, right now the economic outlook is favorable. Industrial production looks favorable and that's going to drive a favorable outlook for each and every one of these commodities in our industrial product business.

We are going to continue our focus on taking trucks off the highway particularly for lumber paper product and those things going from the Pacific Northwest to California, Arizona, and Nevada, and we are also expecting to see another good year in [inaudible]. Last but not least is Intermodal and while the year over year comparison is skewed somewhat by the 2002 ILWU lock out it's also important to point out that as an overall volume level we set a new record for fourth quarter loadings in our Intermodal business.

We saw strong international and domestic growth. Our UPS business was up dramatically. It was driven by the new LA to Chicago and Little Ferry business that started mid year as well as the LA to Dallas, LA to Memphis, both of which began in September. Our truckload business grew 22%.

So at the end of the year we were able to offset the loss of the [inaudible] and mid shipping business and we were able to offset it with higher margin business to boot so we feel good about that.

In the year ahead we are expecting the growth in imports and even stronger economy to help us on the domestic volumes as well. We are hoping that the new hours of service regulations for trucks will also give our domestic business a boost. Now that we have our full crew base and our service improvement is back on track again well be expanding some of our Blue Streak products to help step up the velocity of our conversion to highway track.

So you put it all together here's what 2004 looks like for us. We expect that overall we are going to see market growth this year of about two to 3%. We talked before about our target is to be able to net at least one point of pure price. We don't see any reason why we won't be able to do that in 2004. And when you net out the loss of Georgia power and [dinagee], we think our penetration or share gain this year is going to come in the one to 2% as primarily coming off the highways. When you add it all up we are looking for growth somewhere in the 4 to 6% range.

We talked before about the power and the diversity of the Union Pacific franchise and it served us as well during those last several years of economic sluggishness and we are pretty excited about the prospect of seeing what we can do in a robust economy.

With that I am going to turn it balk to the Chairman.

Thank you, Jack, listen to you talk got me excited and reminds me of what a great company we have and the wonderful potential we have. Before I talk about the future I would just like to quickly recap some of the highlights of '03.

Despite the head winds of higher energy prices in a very sluggish first half we had success in a number of areas. We recorded our best ever rail revenue with nearly 4% growth in total in each of the six commodity groups posted yearly gains for the first time since 1999.

We partnered with the CSX to deliver a 60 hour transcontinental service with United Parcel Service which was truly a breakthrough offering. We received over $600 million from the successful sale of Overnight and, in addition, unlocked some cash tax benefits for future years as a result of this transaction. We strengthened our balance sheet in part by retiring a full 1.5 billion of convertible preferred securities issued in 1998.

As Jim mentioned we handed 2003 with an all end debt to cap ratio of [44.8%] the lowest level that we have seen since prior to the two mergers in the mid 90s when we merged with Chicago, Northwestern and southern Pacific. We increased our return to shareholders by raising the quarterly dividend by 30% from 23 to 30 cents a quarter, and that followed the increase in '02 of 15% for a total increase of about 50% over the last two years. And we still ended the year with over 500 million of cash after dividends.

So all in all 2003 was a very good year. But it was also a year that could have been and should have been even better than it was.

Now looking at the year ahead I see a great deal of potential but also some challenges that we have to deal with. The biggest challenge continues to be high energy prices. At today's high levels, earnings could see pressure again in '04.

High prices are a tax on everybody in America and could hamper the economic growth that we are seeing. And it's particularly difficult for our chemical customers as natural gas is their primary feedstock. Now that's it.

I think most people agree that the economy picked up in the last part of '03 and is continuing to show signs of strength as we go into '04. As Ike mentioned that's certainly a positive and that's our responsibility to translate that positive outlook into increased car loadings and increased profits.

One way to achieve that is to improve the reliability of our service and reduce our quality failures. The cost of not doing things right the first time impacts our customer satisfaction, our business growth and obviously the bottom line. We must and we will learn from the mistakes of the past to eliminate those errors and drive quality throughout our organization.

You heard Dennis mention a few of his 2004 capital projects a moment ago. Those projects are part of our ongoing efforts to maintain a first rate infrastructure and take advantage of the growth opportunities that are there for us.

Capital spending totaled just under $2 billion in 2003 and while the board hasn't yet looked at or approved our 2004 budget, capital spending this year should again be around $2 billion give or take a little bit. Capex goes hand and hand with our continued focus on improved cash flow.

As we said before we will balance the uses of cash between our capital needs, our continued balance sheet improvement and improving our returns for our shareholders. We are targeting 2004 free cash flow after dividends of over $500 million once again. Now that's significant given the loss of the ongoing cash flow from Overnight as well as the $75 million increase in the dividends that we declared last year.

As for our EPS outlook, the crystal ball continues to be a bit cloudy. We are more optimistic about the overall business outlook than we have been for quite sometime, obviously, however as we have said fuel prices continue to be a real cloud for us, and we are still not certain that the economic rebound is sustainable.

We are confident that we should achieve double-digit EPS growing from continuing operations. Just how far we will get into the double digits will depend upon what happens with fuel price and the economy as we move forward in the year. So we will keep you updated from quarter to quarter on our progress and see how the year unfolds.

Looking at the first quarter, we definitely see some upside from a year ago. We are seeing stronger demands, particularly in AG product, industrial products, and Intermodal; if that continues we look for revenue growth in the four to 6% range. Unfortunately our current fuel prices are above last year's first quarter average of 1 dollar. Now that clearly could be a head wind for us if they stay at these high levels.

Our crude recovery mechanism would somewhat mitigate that where we were from a years ago. You remember we really improved the process in mid year-- last year. We will also see some higher training costs in the first quarter as we work to move our new train members out of the classroom and into the field.

On a year over year basis 2004 will not be affected by FAS 143 and we won't have the three cents per share contribution from Overnight. So given all of those factors we'd look for 30 to 40% EPS growth over of the 57 cents that we reported from continuing operations in 2003.

With that I will close by saying that 2004 looks to be a promising year for our company. Through our yield strategy we will leverage the improving economy into profitable growth opportunities for Union Pacific. And as a result of that we will reward the three stakeholder groups that we have continued to focus on in recent years.

So with that we'd be happy to take a few moments to answer any questions that you might like to pose. Question & Answer Jennifer?

Could you talk about pension expense, maybe the Delta and pension expense that hit your income statement from '02 to '03 and what you expect the Delta would be from '03 to '04?

Overall I am trying to think of numbers here. I think we are up around $20 million or so [inaudible] we did lower the return assumption 8%. In '04 we will not see that kind of increase. It's going to be probably single, five to $10 million overall. Our pension fund is, obviously with returns where they are today as you know we put another $100 million in cash in the railroad fund in '03. Our deficit is looking much better, so we are feeling pretty good about that.

My last question is just on coal contracts are there any coming up that we need to be aware of, and I get a lot of questions from investors about concerns that price or rent per car in the coal world, the western side of the U.S. is falling every time a contract comes up for negotiation. Can you give us to feel comfortable that that isn't happening as contracts get renegotiated?

Jack, would you like to take that?

We do have one contract that's up for negotiation in 2004 and that's TVA. It's not up until the end of 2004 and we are working on that.

In terms of the second part of your question, I think we pretty much will stay with what we said in the past which is that we evaluate each and every one of the deals that come up. We look carefully at the economics of that [inaudible] our ability to invest in the business and look at that very carefully and try to make the right decisions for our shareholders and our customers and our employees.

Thanks very much .

Just a couple of questions. Dick, maybe you can give us you what will your crystal ball might or might not say what the energy bill is in Congress and obviously there's some things in there that will impact the rail industry.

It impacts us in many ways and correctly because of the fuel tax that we pay. It's 55, $60 million a year but it also impacts our customers. The utility customers [inaudible] I think right now it's quite frankly it's quite iffy. It seems to be that the one ringer there was thrown in at the last moment it really has impeded it is the MTV E. issue and as I understand it you know Congress is just reconvening and that's one of the first orders of priority is with the administration and leadership of Congress to take another look at this.

I was really optimistic in the fourth quarter but I'd say right now it's really up in the air.

I don't think there's any certainty at all about the outcome of it.

A couple other questions. One would be maybe for Jack. All the things seem to be aligning right for grain and yet it was up 2% in the fourth quarter and I am getting a sense maybe this is the wrong way of looking at it, why wasn't that stronger---it seemed things fell off the bottom of the bucket in addition to things you said were quite strong in terms of exports, in terms of traffic to Mexico, I would have had a sensation that it might have been a better outlook for grain relative to what happened in the fourth quarter.

I think when you look at our grain business overall demand was strong. We did mention the fact that with some of the crew shortages we got in a position that we weren't able to handle all the grain demand and we are going to pick that up here in the first quarter [inaudible] [inaudible] [inaudible]

Last quick question maybe for Jim, what's your fuel price assumption in, what's your best crystal ball figure? I am trying to correlate your fuel cost assumption, [inaudible], if you could bracket in a range of fuel prices.

Scott as I said, a year ago we paid 1 dollar a gallon. Right now my outlook in buying fuel at $1.05 or higher in January although we did a better job isn't recovery than we did a years ago [inaudible] 50% or so it's really tough to tell but it continues where it's at we are going to be above a year ago.

Is that the number that's in your guidance range, are you assuming $1.05 in your guidance range?

What I am looking at now is its flat year over year so there's a risk if it stays up.

Good morning. Can you talk about, Jim, if there's any [inaudible] of Capex for '04? I know you said [inaudible] 2000 but you also talked about a lot of locomotive work. Secondly can you give a quarter by quarter roll-out of what your fuel hedges look like for '04?

We are not at this point in time because of the accelerated depreciation pulling [inaudible] locomotives. One of the issues we look at is we are still on AMT. AMT reduces the benefit of the depreciation opportunity.

What we are doing in our locomotive program is really matching volumes. We did pull some locomotions out of '04 and into '03 we do have the potential to move some '05 and '04, but we will match it with volume.

The hedge, the [inaudible] collars that we put in place around 10% of our fuel, nine, 10 percent, is pretty steady. I don't remember exact numbers but it's an entry point of about , 89-90 cents. There is a cap of a buck ten, a floor of about 80 cents. I think as you move through the year you can probably move all three of those numbers down by about a penny or two.

I'd point out too that talking about capital, we mentioned in St. Louis it is possible it might step capital up a little bit to prevent bottlenecking in areas that Dennis talked about, the old union Pacific SP route south of east St. Louis going down to Arkansas, and then the sunset route between El Paso and southern California ---those are both high growth opportunities for us and those are bottlenecks we talk about; we are always trying to reduce the bottlenecks every year so we can improve the validity of the routes and accept more traffic.

So it wouldn't be a huge number. It might not be any increases. We haven't talked to the board about it yet but there is an opportunity of a slight increase there. But we will balance it [inaudible] [inaudible]

Two quick clarifications---the fuel surcharge can you give us the number that you thought it was going to be and what percent of revenues? And maybe, Jack, is there any impact on the grain with mad cow disease--is that shifting the demand at all for any kind of feed or is that just [inaudible.]

On the fuel surcharge, our goal is to continue to increase that. We had very good success in '03. Right now when I look at '04 fuel surcharge including RCF and the mechanisms cover 70 plus percent of business.

The real key, though, is recovery. Having a fuel surcharge that kicks in at 36 bucks doesn't do you a lot of good although I think we were there yesterday. What we are focused on is to continue to move that recovery. I said earlier I am very confident we will be above 50% for the year. Again our goal here is to reduce the volatility.

The programs we have in place today if you think about it we reduced the volatility by about 50%.

In terms of mad cow disease. We have looked through it carefully. In our worst nightmare, it's maybe $5 million of the year [inaudible] [inaudible] [inaudible] [inaudible] [inaudible] [inaudible] [inaudible] Both ways. We also haul grain to chicken feeders. So their desire for protein from chicken [inaudible] [inaudible] [inaudible].

A couple of questions--I guess this is for Jim or Dick--as you see the environment getting better could you talk a little bit about incremental operating margins you think you can see in the business, the next dollar of revenues comes X% down to the operating line, can you give us some kind of.

I am going to let Ike take that one.

New products and services was introduced on a revenue base now of over $750 million have been growing at a 16% compounded growth rate, and all of those new products and services have a higher profit rate than the services that took place, so we are doing are [inaudible] [inaudible] to answer your question we are bringing the new business we are bringing in is coming incrementally, better profits lines [inaudible] volume also we, we will leverage volume nicely going forward. We are well positioned for that.

Also probably also for you, Ike, head count, maybe I'm characterizing this incorrectly but last year part of the problem was the economy got maybe a little bit better a little bit sooner than you would have expected but you were cut short a bit on crews.

Now things have been turning around, January seems to have had strong momentum off of December. How do you make us comfortable that you might not be caught short on crews or playing catching up with an economy accelerating faster than we might thought?

First of all when you look at our failure costs, one cost that we don't want to incur is moving trains for crews so we are going to put ourselves in a situation that that's not the case. Looking forward to the year on a 4% volume growth head count is probably going to be about flat; 6 percent, head count may be a little higher than it was in '03. But at the same time in either scenario our unit costs will be down.

Thank you. Just one final question. You talked about operating ratio a bit. Dick this is something you would want to take, I'm guessing.

Let's assume we are in a world where fuel praises maybe they are not 35 or 36 but low 30s. It has a three in front of it. While your performance has been stellar you might be getting board of operating ratios having an an eight in front of it. When you do say good by to the eights?

That takes a combination of the strong economy and many price reduction on fuel or better fuel economy will make that happen. My crystal ball is not as precise as it used to be because I keep thinking these head winds are going to subside but they've been determined to stay alive. It takes a combination. With either have to have higher revenue and lower fuel or recover a much greater percentage of the fuel price increases in order to truly below buy it.

Thank you.

Two questions, one for Ike, about Intermodal with the pricing pressures that trucks are facing with hours of services whether truck pricing is going to grow a bit this year would your strategy need to participate in that pricing increase or [inaudible] and simply share gains on the Intermodal site?

We commit to do a 1% price increase and we've done it now for four consecutive years and that's, we expect the same kind of pricing increase in '04. We are going to be opportunistic where we can be and that when it presents an opportunity [inaudible]

I'd say, too, Ike is a little modest but with his real focus on improving profitability at intermodal our yield since the year 2000 has just gone up enormously; I've forgotten the percentage, maybe 30%. It's the combination of more efficient Intermodal operations and price improvement on kind of a selective basis. What is the percentage increase in yield, Jack? It's just huge.

It's pretty close to 24, 25%.

I was a little optimistic but it's been a nice area of improvement for us.

Just to follow up on fuel, what is the lag between your recovery and the actual price of the underlying bill that you're paying? In other words if fuel costs sort of level out here will your recovery go up from the lag affect as you catch up?

We do have some lag effect and that is particularly based in the portion of fuel we recover through RCAF and about roughly 27% of our business is covered by an RCAF escalation clause of some sort. With respect to the more direct fuel surcharge where we use a D.O. E. highway fuel index we do that on a monthly basis. We are only one month in arrears so we should be able to recover relatively quickly.

What's a good rule of thumb for the [inaudible]?

You know, it's very hard to say because we have some contracts that only escalate annually, some that escalate quarterly, some that are on a monthly basis so it really is dependent on the contract.

Thanks.

Hi, in terms of the performance metrics that have been talked about for a good portion of the year, how much of that would you say is attributable to the mix of business you've been running through the system as opposed to operational issues, maybe some of the merchandise or industrial areas?

When you say operational metrics you are talking about train speed hours, crews that sort of thing?

Correct.

Probably we have five different opinions here but I'd say that the vast majority of it just had, you know, mid-August business started taking off and, in our old firing methodology it took us five or six months to get a person hired and trained and put to work productively.

That's one of the things through this difficult lesson that we learned that we looked at our quality process and we went through an improvement cycle and we are going to reduce that to [inaudible] considerably but I don't think it had much at all to do with business mix. I think it was pure and simple not enough people and not enough people translated into a reduction of utilization of our locomotives and freight cars and increased hours service tie ups and it was a cascading effect . Now we have that turned around and we are making a come back.

Three months of uncomfortable operations. Mix does have an impact. Intermodal does have a higher average speed than the other groups and it is a minority and the addition of the five critical resources that Ike has talked about and we talked about significantly in the past is more the key driver of it than the mix.

Thank you.

Yes.

Craig Ryan, Bear Stearns. With respect to chemicals have you seen any uptick in plastics demand or have higher fuel costs tended to [inaudible]

Ike, you or Jack?

For plastics we actually did see an uptick in the fourth quarter that was encouraging. I don't know that I would call it sustained and substantive if natural gas prices continue to bounce up again, they were in the 7-dollar range, things like that, that's pretty tough. But at least at some point in time you have reached the point where there isn't a lot of inventory built up. There's opportunity there and they are producing some level of plastics [inaudible] certainly those natural gas prices are a big issue.

Also a follow up on that question. How was the yield [inaudible] [inaudible]?

I want to say it was up around 5%.

Is that a function of higher feed feedstock costs?

No, that wouldn't drive our yield. What would drive our yield is fuel surcharge, RCAF escalation, and to some degree the mix in business. You see plastics with a pick up in some of those kinds of things. You also saw a lot of our business as it spread into things like pipeline service that gives us the opportunity to extend the length of [inaudible] of some of those things [inaudible] .

Lastly on free cash flow looking forward can you give us a sense of what the operating ratio assumption is behind that number? About 500 million?

Our goal obviously is to improve it here. We are pretty conservative when we look at our cash numbers. As Dick has said we will match our capital spending here.

We will assume in a relatively higher crude price for our plan this year, it's obviously above that. My concern if fuel stays at 33, 34 bucks a barrel and you are going to see a bigger issue of one that will start to be effecting demand in production, that is clearly a bigger issue.

What we do is pay attention to our demand forecast and we see volumes starting to slow down we will take some action on our capital plan. So we are assuming obviously an improvement in our [inaudible] [inaudible]

Just maybe a couple of quick ones for Jim. What should we use going forward on your tax rate from [inaudible] perspective and can you elaborate a little bit on the benefits of the Overnight sale relative from a cash standpoint, what it does to your cash flow statement and last question would be you do you need 500 million of cash on your balance sheet? What do you think you might do with that?

You have three questions there. Longer term, 37% is kind of the long term rate on [inaudible] now that will be a little bit lower this year with tax incentives from our building as we said earlier the cost to relocation and severance that will hit operating income will be offset by [inaudible] and state taxes, that was item one. We don't need $527 million on the books and as Dick had said we want to get maybe a more clear look here.

I am concerned about higher fuels staying in for the year. So we are going to hold on to a little bit of cash for awhile but we are going to step back and take a look at our growth capital, our consistent dividend program and continue to look at debt. As the year goes on we can be a little more clear on that. What was your third question?

Oh, we reported the gain of sales at $620 million. The cash tax piece is in excess of $100 million, about $120 million. That will come in over three years. And it will be more front end loaded but we have to, it will happen over '04, '05 . Debt or debt ratios, I think we, you run the business right here and we will continue to see some more improvement. I am looking for ratings upgrades here.

We were delighted with both agencies picking us up. We felt very good, we feel good being where we were. We had hoped to see [inaudible] Again we are looking at a balanced approach here.

Can you give me some outlook and some underlying trends on the per employee salaries and interest expenses?

We are looking at inflation this year in the three, 3.5% range that would be wages and benefits. Our industry has done a good job in terms of terms of reducing double-digit healthcare costs to maybe high single-digit but still going to have three, 3.5%.

If you look at the labor costs per employ you are going to see a couple different things happening there. If you look at our [inaudible] level this year you are going to see mix change quite a bit. I don't know about this year going forward. Our fourth quarter our train crew employees were up almost 400 yet our back office, those areas were down almost 400.

What happens there is you'll [inaudible] is [inaudible] you can make a lot of money as an employee; if you make all your calls when you look at our all of our agreement [inaudible] they are the highest paid employees. As we grow the business we are going to continue as I said I hope we have to hire for volume. That's a nice problem to have. But that average employee cost I think will tend to trend up because primarily [inaudible] inflation. That volume also can come from [inaudible] better services can drive revenue so it's not a negative [inaudible] [inaudible] [inaudible]

Well, very good. I'm sure there's a lot of people out on the audio portion of this that are thankful that you asked so many questions. I think it will be very helpful expanding our presentation and we appreciate that. Thank you for your interest in our company and we will be communicating with you via the net next time.