聯合太平洋集團 (UNP) 2015 Q1 法說會逐字稿

Greetings.

Welcome to the Union Pacific First Quarter Earnings call.

At this time, all participants are in a listen-only mode.

A brief question and answer session will follow the formal presentation.

(Operator Instructions)

As a reminder, this conference is being recorded; and the slides for today's presentation are available on Union Pacific's website.

It is now my pleasure to introduce your host, Mr. Lance Fritz, President and CEO for Union Pacific.

Thank you.

Mr. Fritz, you may begin.

Good morning, everybody, and welcome to Union Pacific's First-Quarter Earnings conference call.

With me here today in Omaha are Eric Butler, our Executive Vice President of Marketing and Sales; Cameron Scott, Executive Vice President of Operations; and Rob Knight, our Chief Financial Officer.

This morning, Union Pacific is reporting net income of $1.2 billion, or $1.30 per share, for the first quarter of 2015.

This is a 9% increase in earnings per share compared to the first quarter of 2014.

Solid core pricing gains in the quarter were partially offset by a sharp drop in volume.

While we took actions during the quarter to adjust for the volume decline, we did not run an efficient operation.

Total first-quarter volumes were down 2%, with particular softness in coal, industrial products, and intermodal.

Throughout last year, we worked to add the people, locomotives, and capacity needed to meet a dramatic increase in demand.

By the end of 2014, we had seen full-year volume growth of 7%; and we were fully resourced to meet this demand.

Over the last few months, however, volume has shifted negative.

As a result, our operation is in catch-up mode and not as efficient as it should be.

Managing a network is a constant balancing act to ensure you have the right resources in the right place at the right time.

This balancing act becomes more difficult during significant volume swings.

We are taking the steps to align our resources with current demand, while remaining agile in an ever-changing environment.

We remain committed to safely providing excellent service for our customers.

while improving that service and our financial performance.

With that, I'll turn it over to Eric.

Thanks, Lance.

Good morning.

In the first quarter our volume was down 2%, driven by challenges in some key markets.

Automotive and Ag products volume grew with declines in coal, industrial products, intermodal, and chemicals.

Milder winter weather and natural gas prices drove softer coal demand; lower crude oil prices reduced demand for shale-related shipments; and we also experienced the effects from the drawn-out West Coast labor port dispute.

I'll talk about more specifics as we walk through each group.

Fuel surcharge revenue reduction negatively impacted average revenue per car, and was a 4% headwind on freight revenue.

However, solid pricing gains across our business led to a core price improvement of 4%, which combined with a 1% mix and drove average revenue per car up 1%.

Overall freight revenue was down 1%, as our strong pricing gains and mix were offset by lower volume and fuel surcharge revenue.

Let's take a closer look at each of the six business groups.

Ag products revenue increased by 3%, on a 3% volume increase and a 1% improvement in average revenue per car.

Grain volume was down 2% this quarter.

We continue to see strong demand for overseas export feed grain shipments, particularly through the Gulf and Mississippi River.

Those gains were offset primarily by declines in wheat exports and, to a lesser degree, softer demand for domestic feed grain.

Grain products volume was up 4% for the quarter.

Ethanol volume grew 7%, driven by increased gasoline consumption and export demand.

We also saw increased export demand for soybean meal, and a strong canola crop drove increases in canola meal shipments.

Food and refrigerated shipments were up 3%, driven primarily by continued strength in import beer, partially offset by slightly lower refrigerated food shipments.

Automotive revenue was up 6% in the first quarter on a 7% increase in volume, partially offset by a 1% reduction in average revenue per car.

Finished vehicle shipments were up 11% this quarter, driven by continued strength in consumer demand and reduced impact from winter weather.

The seasonally adjusted annual rate for North American automotive sales was 16.6 million vehicles in the first quarter, up 6.4% from the same quarter in 2014.

Auto parts volume grew 3% this quarter, driven primarily by increased vehicle production.

Chemicals revenue was flat for the quarter, with a 2% improvement in average revenue per car offsetting a 1% volume decline.

Plastics shipments were up 8% in the first quarter, as stability in resin prices resulted in improved buyer confidence in the market.

Strength in fertilizer demand this quarter drove volume up 10%.

The slight delay in last fall's harvest pushed some application into the first quarter of this year.

We also saw strength in export markets, particularly to China.

Finally, lower crude oil prices and unfavorable price spreads continued to impact our crude oil shipments, which were down 38% for the first quarter.

Coal revenue declined 5% in the first quarter.

Volumes were down 7%, partially offset by a 3% improvement in average revenue per car.

Southern Powder River Basin tonnage was down 1% for the quarter.

We experienced a very mild winter this year which combined with low natural gas prices to reduce demand for coal.

Colorado/Utah tonnage was down 32% for the quarter, as a mild winter and low natural gas prices drove receiving utilities to switch to other fuel sources.

Colorado/Utah tonnage was also impacted by soft demand for coal exports.

Industrial products revenue was up 1%, as a 3% decline in volume was offset by a 3% improvement in average revenue per car.

We continue to see strength in construction products, where volume was up 4% for the first quarter.

Demand for rock was strong in the quarter, particularly in the southern part of our franchise.

Metals volume was down 17%, as lower crude oil prices significantly reduced new drilling activity.

In addition, the strong US dollar drove increased imports, which reduced demand from domestic steel producers.

Our government and waste shipments declined 8% in the quarter, primarily driven by a temporary reduction in short-haul waste shipments.

As a side note, our minerals business was not a key driver in industrial products this quarter; but I wanted to mention the fact that our frac sand volume was up 3%.

Demand remains strong in January, but tailed off significantly in March.

I will talk more about our outlook in a moment.

Turning to intermodal, revenue was down 5%, driven by a 3% decrease in both volume and average revenue per unit.

Due to the structure of intermodal fuel surcharge programs, there was a greater average revenue per unit impact to intermodal this quarter than seen in other commodities.

Domestic shipments grew 9% in the first quarter, setting an all-time first-quarter record for volume.

We continued to see strong demand from highway conversions and for our new premium services.

International intermodal volume was down 12%, driven by the West Coast port labor dispute, which stretched late into the quarter.

We are encouraged that the parties have come to a tentative agreement, and we're working with our customers to reduce the backlog and return to normal.

Let's take a look at our outlook for the rest of the year.

In Ag products, we expect grain volume to return to normal seasonal patterns through the third quarter.

And we anticipate exports will favor shorter-haul shipment to the Gulf and river in the near-term.

As always, we're keeping a close eye on planting reports and the weather to determine what the next crop will look like.

In grain products, we think the ethanol market will remain strong; and DDGs will remain steady throughout the year.

Finally, we anticipate continued strength in our import beer business, and we see potential up side in refrigerated shipments.

In automotive, finished vehicles and auto shipments should continue to benefit from strength in sales, driven by a healthy US economy; replacement demand; and lower gasoline prices.

Coal volume will largely be dependent on the weather this summer and natural gas prices.

If natural gas prices remain in the current range, there will be a headwind throughout the year.

Also, the latest inventory figures show that stockpiles are significantly up from last year, and are now above the five-year historical average, which will likely lead to continued softness.

We think most of our chemicals markets will remain solid this year, though we expect that crude oil prices will remain a significant headwind for crude by rail shipments for the rest of the year.

Lower crude oil prices will also impact some of our industrial products markets.

We expect metals to continue to experience headwinds, as capital investments for new drilling activities are reduced.

As I mentioned earlier, frac sand shipments were up modestly in the first quarter.

But we expect to be meaningfully lower year over year, starting in the second quarter, as demand softens and we come up against tougher comps.

On the positive side, we think continued strength in the construction and housing market should drive growth in aggregates and lumber.

Finally, we anticipate strong demand for domestic intermodal to continue throughout the year, primarily from highway conversions.

For international intermodal, we expect a backlog recovery to continue for the next few weeks, then return to normal seasonal patterns for the remainder of the year.

Both domestic and international intermodal should benefit from the strength in consumer demand in the US.

To wrap up, we are experiencing some volume headwinds created by uncertainty in the coal market and crude oil prices; but we see opportunities in other markets.

While top-line revenue will be impacted by lower fuel surcharge revenue, we expect solid core pricing gains for the year.

As always, our strong value proposition and diverse franchise will support new business development efforts throughout the year.

With that, I will turn it over to Cameron.

Thanks, Eric.

Good morning.

I'll start with our safety performance, which is the foundation of our operations.

The first quarter 2015 reportable personal injury rate improved 23% versus 2014 to a record low of 0.85%.

These results are a validation that our comprehensive safety strategy is working, and we are focused on the right things.

I am very proud of the team's commitment to find and address risk in the workplace.

In rail equipment incidents or derailments, our reportable rate increased 6% to 3.16.

To make improvement going forward, we continue to focus on enhanced TE&Y training, and continued infrastructure investment to help reduce the absolute number of incidents, including those that do not meet regulatory reportable thresholds.

In public safety, our grade crossing incident rate improved 27% versus 2014 to a first-quarter record mark of 1.88.

Our strategy of reinforcing public awareness through community partnerships and public safety campaigns is generating results.

And we will continue our focus in these areas to drive further improvement.

In summary, the team has made a nice step function improvement in several areas that is generating results on our way towards an incident-free environment.

Moving to network performance.

As we discussed, we worked hard in 2014 to match network resources with the robust volume levels of 2014.

During the latter part of the fourth quarter, our available resources were largely aligned with demand, helping generate the sequential velocity improvement in the network.

While we have largely held those velocity levels made in December, we still have more work to do as we exit the first quarter that provided more favorable weather conditions, but one that also saw more extensive track renewal programs on key corridors.

While our velocity in the first quarter was almost one mile an hour faster than the first quarter of 2014, our service performance still fell short.

As reported to the AAR, first-quarter velocity and freight car dwell were about flat when compared to the first quarter of 2014.

However, the team continues a relentless push to improve service and reduce costs.

While productivity was not where we wanted it to be, we did generate some efficiencies, even with the decline in volumes during the first quarter.

We achieved record train lengths in nearly all major categories, including in automotive, where we leveraged an 11% increase in finished vehicle shipments, with a 5% increase in average auto train length.

Our terminal productivity initiatives also continue to generate positive results, as car switch per employee day increased 3%.

But our sub-optimal services performance and timing issues with readjusting resources lead to inefficiencies during the quarter.

One example of this is locomotive productivity, as measured by gross ton miles per horsepower day, which was down 6% versus 2014.

As for our efforts to readjust resources, while we chased volume on the way up last year, it's been a different story in the first part of 2015, with some softer volumes we have seen thus far.

To balance our resources to current demand, we have placed around 500 TE&Y employees into furlough or alternative work status.

We have also reduced our original TE&Y hiring plan downward by 400, and are now planning to hire around 2,400 TE&Y employees for the year.

Of course, we will continue to monitor and adjust our workforce levels and hiring plans throughout the year as volume dictates.

The same process is underway with our locomotives.

By the end of the quarter, we had already moved 475 units back into storage and continue to look at every opportunity to further reduce our active fleet.

Also, our planned acquisition of 218 units this year will further improve our overall reliability and efficiency.

We have experienced a timing lag in getting our resources aligned with demand, but we are intently focused on balancing our resources and reducing our costs as the year progresses.

We are also adjusting our 2015 capital program down $100 million to approximately $4.2 billion.

We will continue to invest to improve the safety and resiliency of the network, including more than $1.8 billion in infrastructure replacement programs.

Our capital program also includes continued investment for service, growth, and productivity, which are primarily concentrated on the southern region of our network; but which also include corridor strategies that reduce bottlenecks across the system.

This reduction does not impact our core investment strategy, which is to maintain a safe, strong, and resilient network, and to invest in service, growth, and productivity projects where returns can justify the investment.

I would also like to give a quick update on positive train control.

As most of you know, the rail industry has been required to install PTC by the end of 2015.

The required development and testing of this new technology has been challenging.

Nonetheless, we have been moving forward, investing approximately $1.7 billion thus far to complete the mandate.

Now that the scope of the project has been better defined, we've updated our total project investment in PTC to approximately $2.5 billion.

Although UP will not meet the current 2015 deadline, we have been making good faith effort to do so, including field testing since October 2013.

The industry has been working to extend the deadline.

And I think there is general understanding on Capitol Hill that this has to happen.

While we remain hopeful that an extension will be passed, our overall investment in the program will not be contingent on the deadline.

To wrap up, as we continue on in 2015, we expect to continue generating record safety results on our way to an incident-free environment.

We expect to leverage the strengths of our franchise to improve network performance.

We will invest in the resources and network capacity needed to overcome congestion and generate productivity gains.

And we will remain agile, balancing and adjusting resources depending upon demand to drive improved cost performance.

Ultimately, running a safe, reliable, and efficient railroad creates value for our customers and increased returns for our shareholders.

With that, I'll turn it over to Rob.

Thanks.

Good morning.

Let's start with a recap of first-quarter results.

Operating revenue was flat with last year at just over $5.6 billion.

Strong core pricing was offset by declines in fuel surcharge revenue and total volumes.

Operating expenses totaled just over $3.6 billion, decreasing 4% when compared to last year.

The net result was operating income growing 7% to about $2 billion.

Below the line, other income totaled $26 million, down from $38 million in 2014.

Interest expense of $148 million was up 11% compared to the previous year, driven by increased debt issuance during 2014 and at the beginning of 2015.

Income tax expense increased to $704 million, driven primarily by higher pre-tax earnings.

Net income grew 6% versus last year, while the outstanding share balance declined 3% as a result of our continued share repurchase activity.

These results combined to produce quarterly earnings of $1.30 per share, up 9% versus last year.

Now turning to our top line.

Freight revenue of about $5.3 billion was down 1% versus last year.

In addition to a 2% volume decline, fuel surcharge revenue was down about $200 million when compared to 2014.

The decline in fuel price was partially offset by the positive lag in the fuel surcharge programs.

All in, we estimate the net impact of reduced fuel prices added about $0.08 to earnings in the first quarter versus last year.

This includes both the fuel surcharge lag and lower diesel costs.

In the second quarter, we expect the net earnings impact of reduced fuel prices to be closer to neutral.

Business mix was slightly positive for the quarter, driven by a decline in lower average revenue per car international intermodal shipments.

Looking ahead, given the volume shifts between our commodity groups, business mix is likely to have a negative impact on freight revenues beginning in the second quarter.

Slide 23 provides more detail on our core pricing trends.

First-quarter core pricing came in at 4%, reflecting a more favorable pricing environment in 2015.

This represents a full point to sequential improvement from the fourth quarter of last year.

Of this, about 0.5% reflects the benefit of legacy business that we renewed earlier this year.

This includes both the 2015 and 2016 legacy contract renewals.

Moving on to the expense side, Slide 24 provides a summary of our compensation and benefits expense, which increased 9% versus 2014.

Lower volumes were more than offset by labor inflation, increased training expense, and lower productivity.

Looking at our total workforce levels, our employee count was up 6% when compared to 2014.

About one-quarter of this increase was in our capital-related workforce.

As Cam just discussed, we are adjusting our total hiring downward to better balance our resources.

The largest hiring area will continue to be in the TE&Y ranks.

In total, when you factor in attrition, training, furloughs, and volume levels, we expect our net overall workforce levels to be around 48,000 by year end, about flat with year end 2014.

Labor inflation was about 6% for the first quarter, driven primarily by agreement wage inflation, and will likely continue to be in the 6% range for the second quarter as well.

Keep in mind that the first and second quarters include the 3% agreement wage increase effective the first of this year, on top of the 3.5% wage increase from last July.

For the full year, we still expect labor inflation to be about 5%, including pension.

Turning to the next slide, fuel expense totaled $564 million, down 39% when compared to 2014.

Lower diesel fuel prices, along with a 1% decline in gross ton miles, drove the decrease in fuel expense for the quarter.

Compared to the first quarter of last year, our fuel consumption rate improved 1%, while our average fuel price declined 38% to $1.95 per gallon.

Moving on to our Other Expense categories, purchased services and materials expense increased 6% to $643 million.

Increased locomotive and freight car material costs were the primary drivers.

Depreciation expense was $490 million [sic, see presentation slides, "$491 million"], up 6% compared to 2014.

We expect depreciation expense to increase about 6% for the full year.

Slide 27 summarizes the remaining two expense categories.

Equipment and Other Rents expense totaled $311 million, which is flat when compared to 2014.

Other expenses came in at $259 million, up $33 million versus last year.

Higher state and local taxes and casualty costs contributed to the year-over-year increase.

For 2015, we still expect the Other expense line to increase between 5% and 10% on a full-year basis, excluding any unusual items.

Turning to our operating ratio performance, we achieved a quarterly operating ratio of 64.8%, improving 2.3 points when compared to 2014.

Our operating ratio benefited about 3 points from lower fuel prices, including the fuel surcharge lag.

Keep in mind, however, we also lost the revenue benefit from our energy-related volumes as energy prices declined.

Turning now to our cash flow.

In the first quarter, cash from operations increased to just under $2.1 billion.

This is up 17% compared to 2014, primarily driven by higher earnings and the timing of cash tax payments.

We also invested about $1.1 billion this quarter in cash capital investments.

As Cameron just noted, we now intend to spend about $4.2 billion in capital for the full year, down about $100 million from our previous estimate.

Given the sharp decline in fuel surcharge revenue, capital spending will likely be greater than the 17% of revenue this year.

Longer term, however, we still expect capital spending to be about 16% to 17% of revenue, assuming of course that fuel returns to somewhat higher levels.

One housekeeping item to note on the cash flow statement.

As you know, in the first quarter we changed the timing of our quarterly dividend payments so that the cash outlay occurs in the quarter for which the dividend is declared.

As a result, we had two dividend payments during the quarter -- one for the fourth quarter of 2014 and one for the first quarter of this year.

This is the only time we will see this, this year.

Together, these payments totaled about $922 million.

We also increased our first-quarter dividend by 10%.

This is in line with our commitment to grow the dividend payout target to 35%.

Taking a look at the balance sheet, our adjusted debt balance grew to $15.6 billion at quarter end, up from $14.9 billion at year end.

This takes our adjusted debt-to-capital ratio to 42.6%, up from 41.3% at year end 2014.

We remain committed to an adjusted debt-to-cap ratio in the low- to mid-40% range, and an adjusted debt to adjusted EBITDA ratio of 1.5% plus.

We feel our current cash outlook positions us well to execute on our cash allocation strategy.

Our profitability and strong cash generation enable us to continue to fund our strong capital program and to grow shareholder returns.

In the first quarter, we bought back about 6.9 million shares, totaling $807 million.

Between the first-quarter dividend and our share repurchases, we returned about $1.3 billion to our shareholders in the quarter.

This represents roughly a 23% increase over 2014, demonstrating our commitment to increasing shareholder value.

That's a recap of the first-quarter results.

As we look towards the second quarter and the remainder of the year, there are a number of factors that we'll be watching very closely.

On the revenue side, we expect a favorable pricing environment to continue, supported by improving service and our strong value proposition.

We remain committed to solid core pricing above inflation.

As for volume, the outlook is a little more uncertain.

The recent challenges that we've seen in coal and in the shale-related markets are likely to continue.

At this point, we think coal volumes in the second quarter could be down in the mid-single-digit range versus 2014, with ongoing softness throughout most of the year, as Eric discussed earlier.

For the year, strength in other areas could offset these headwinds, depending on what happens to the drivers, ranging from consumer spending to the size of the 2015 grain harvest.

Of course, as I previously noted, the volume mix shifts could also have a negative revenue impact.

We will just have to see how it all plays out this year.

From the cost perspective, the second quarter will likely still reflect some impacts of operating inefficiencies although, as Cameron noted, we will see gradual improvement in productivity over time.

As I mentioned earlier, if fuel prices stay close to where they are today, the net impact on earnings should be neutral for the remaining quarters of the year.

Taken together, we have our work cut out for us again in 2015.

But we will continue our unrelenting focus on safety, service, and shareholder returns.

With that, I'll turn it back over to Lance.

Thanks, Rob.

As you've heard from the team, we've had some challenges to start off the year.

But we are taking the steps needed to work through those challenges and realize the opportunities we see ahead.

As Eric mentioned, weakness in our coal and shale-related markets could persist for some time.

But we continue to see gradual improvement in the underlying economy, which should be a positive for other parts of our business.

When you consider other wild cards, from the next grain harvest to the strength of the US dollar, it all adds up to a dynamic environment.

That's the nature of our business.

Our goal is to provide our customers with excellent service wherever the need arises.

We expect to see solid improvement in network performance and cost efficiency over the coming months.

As we leverage the strengths of our diverse franchise, we continue to be intently focused on safety, service, and shareholder returns.

Now let's open up the line for your questions.

Thank you.

We will now conduct a Q&A session.

(Operator Instructions)

Our first question is coming from the line of Tom Wadewitz with UBS.

Good morning.

First I wanted to ask you on coal, it seems like the macro backdrop's pretty challenging.

You acknowledge that -- particularly, low natural gas prices.

But I'm wondering, your mid-single-digit decline seems somewhat optimistic versus the trend we have seen recently.

There's been more like, I don't know, down 10%, 15%.

What is it that leads you to say mid-single-digit instead of worse, and how much visibility do you have to that?

Eric, do you want to take care of that?

Yes.

As you know, Tom, a lot of factors go into play, as there was a relatively mild winter, a narrow serving territory of our utilities.

The heating days were down 5% to 10% versus last year.

We are assuming more normal weather patterns for the balance of the year.

That clearly is a factor.

The other factor, as you know, is this is typically the shelf months.

We see this every year where you don't really have heating or cooling during the spring.

Again, we're assuming we're going to get back to normal, seasonal weather patterns.

As we mentioned, natural gas prices -- what happens with that will have an impact.

A lot of factors, but that's our best assessment at this time.

Okay, thanks.

The second or the follow-up question on the resource levels, you indicated a number of times that inefficiency, or let's say a time lag in resource production versus volume.

How do we think about how that will play through in second quarter?

Do you catch up pretty quickly and see reduction in resources?

Do you expect train speed to improve?

How do you think that plays out in terms of the margin performance?

Does that really kick in and support margin improvement, or is that something where the revenue head wind is more the dominant factor in terms of, again, looking how that affects the OR or the margin performance?

Sure, Tom.

Thinking about the time lag.

We talked to you all last year about trying to catch up with the volume.

Then in the fourth quarter, we indicated we had finally caught up and were fully resourced.

Then coming into the first quarter of this year, volume shifted what I would consider fairly dramatically to be negative, ending up 2% down.

It's really all about being caught in a rip tide, being behind the curve in terms of getting our resources right-sized.

When we look forward into the second quarter, we have indicated that we are anticipating better service and better efficiency.

We haven't put a stake in the ground and said exactly how that happens, but we anticipate -- and I see it happening right now on the network -- we anticipate continuous improvement as Cameron and his team get the business right-sized.

Rob or Cam, any additional comments?

I would add to that, Tom, to your margin question.

Of course, we're always focused on improving the margins.

As Lance pointed out, we are focused on continuous improvement on the cost and balancing the network.

We will have the challenges, as I pointed out, of the mix shift we anticipate taking hold in the second quarter and beyond.

Even with all that activity, we are always going to be focused on improving our margins from where we are today.

Great.

Thanks for the time.

Our next question is coming from the line of David Vernon with Bernstein Research.

Great.

Thanks for taking the question.

A first question on the top line.

If you think about the range of potential down side on the frac sand business, have you guys tried to bookend that at all, as far as how much you think demand may be down as we get into second quarter?

Yes.

A lot of things could change that or drive it, as you know, particularly coal prices.

We look at the outlook right now.

We see a mid-teens kind of a range.

We see our business to look more like 2013 volumes than 2014 volumes.

Okay, and then maybe just as a quick follow-up, the core pricing gains of 4%.

I think Rob you mentioned that inflation was going to be on the labor side unusually high this year because of the new labor agreement.

How do we think about that in terms of your expectation of pricing above inflation?

Are you guys expecting a lot more productivity toward the back half of this year?

How do we think about that pricing inflation relationship?

Or do we think that pricing maybe gets better in the second and third quarter than the 4% you reported?

David, just to capstone that question, we have been consistent and clear that when we're pricing in the market place, we're pricing for our value proposition.

Whatever either Eric or Rob you want to comment on, it's in that context, our pricing in the market place is our value.

I would just say, David, that our long-term view is pricing above inflation.

We don't -- it's not necessarily a quarterly pricing activity directly tied to inflation.

As I called out, we expect the first half of this year to have a little higher labor inflation.

Overall, for the year we expect our overall Company inflation to be in the 3% to 4% range.

That gives you a guiding light, in spite of the challenges we know we are going to face in the first half on the labor line.

Overall, Company-wide, we think in that 3% to 4% inflation rate for the full year.

That 4% includes the legacy re-price, right -- for first quarter?

The 4% reported for the first quarter does include legacy re-pricing, yes.

Okay, thank you.

Our next question is from the line of Rob Salmon with Deutsche Bank.

Please proceed with your question.

Good morning.

Thanks for taking my question.

As a clarification to David's last question, in your prepared remarks, Rob, you had indicated that the core pricing accelerated to 4% in the first quarter.

I think you had mentioned that roughly half that was attributable to legacy.

Was that half of the step-up from 3% to 4%, or half of the 4% in aggregate?

Yes, let me clarify that.

Of the 4% core pricing we reported in the first quarter 0.5 a point of that, so 3.5% to 4%, the 0.5 point was attributable to the legacy renewals.

Thanks, I appreciate the clarification.

Taking a step back, going back to you Investor Day, toward the end of 2014 you had indicated that your longer-term four-year volume outlook is positive.

Given the drop-off that we have seen in terms of the shale-related business, some of the coal challenges you indicated, as well as uncertainty in terms of the Ag crop, do you still have confidence that the volume growth in aggregate will be positive, or do you see that a little bit more challenging as we look out from here?

Rob, this is Lance.

I'll let Rob answer that a little more in detail, but the thing we think about is the beauty of our franchise, the strength of our franchise, and all of the opportunity that it represents, we've got a diverse book of business.

Over time, we've seen that there are always areas where we can develop more business and grow.

We feel still quite bullish about in the long term being able to grow based on this great franchise.

Lance, I would add to your comment that we know we have some challenges right now.

But if you look at the UP franchise, it is a fabulous franchise that has great optimism long term.

Coal's knocking us.

The inventories are high right now, gas prices are low.

The energy prices are low, which is impacting our frac business.

All of those are going to balance out over the long term.

Then you add on top of that what's happening in the chemical franchise.

The opportunity's still in front of us longer term with the investments that are being made in the Gulf.

You look at the Mexico franchise, the fact we're the only railroad that interchanges at the six border crossings, and you look at all the opportunities that are still taking place there.

You look at our strong auto franchise.

You add it all up.

The diversity of our business mix and the strength of our franchise long term still provides us stronger optimism, which is why we think longer term, the expectation still is that volume will be on the positive side of the ledger.

Appreciate it.

Thanks for the time.

Our next question is from the line of Bill Greene with Morgan Stanley.

Hi, good morning.

Rob, can I ask you to put, maybe if you can, a little bit finer point on some of the challenges on the cost side in the first quarter?

I think, last year, you estimated we had about a $35-million headwind from weather.

Can you estimate what the headwind is from some of the inefficiencies that occurred in the network this quarter?

Bill, you're right.

Last year we called out about $35 million of inefficiency tied to the significant weather events, primarily in the Chicago area.

This year clearly our cost performance in the first quarter is not what we would like it to be.

If you take fuel off the table, our costs were about $200 million up year over year.

It's a combination of things that we all have talked about this morning.

We had some timing issues.

We resourced for an expected coming into the quarter higher level of volume.

We had some mechanical activities that we took on that I would categorize as timing.

Then as we pointed out, we had some inefficiencies in the network.

Without putting a -- splitting hairs in terms of where those dollars are, we think they're all opportunities for to right-size the network.

But if you look at what would you have expected if you were running optimally, and had things timed up a little bit better, it probably had a negative impact in the quarter of about one to two points on our operating ratio.

That's the way I would look at it.

Okay.

Then your point about second quarter is it will still take some time for the network to get to the operating efficiencies that you want.

Maybe it will be less than the first quarter impact, but still meaningful.

Is that what you were trying to communicate?

Yes.

Cameron, why don't you walk us through a little bit about the activities that are under way to get these things right-size and get your service back?

Well, we still have work to do, but we think we can eventually right-size the network in the second quarter.

As Rob mentioned, we do think there will be some inefficiencies throughout the quarter.

But the right-sizing of our locomotive fleet, weekly we review opportunities to store additional locomotives.

Several times a month we are also right-sizing our hiring plans, as we look out for the remainder of the year.

Okay.

Rob, let me ask you one last question, too, then here.

On share buybacks, how opportunistic can you be, or is the first quarter run rate what we should expect?

Can you -- if the shares are down a fair amount can you ramp this up, or do you feel like no, we would rather have it be a consistent buyback each quarter?

As you know, our approach has always been, and will continue to be, we'll be opportunistic in the market place.

We don't have a set number of dollars or shares that we'll buy back in any quarter, but I can just assure you that we will continue to be opportunistic as we move forward.

The current price is frankly an opportunity for us.

Okay.

All right.

Thanks guys for the time.

Appreciate it.

Thanks, Bill.

Our next question is coming from the line of Brandon Oglenski with Barclays.

Good morning, everyone.

Lance, in context, your first quarter actually wasn't that bad.

Earnings were up 9% even with all of the challenges you had.

Yet it sounds like the tone from everyone on the call here is that we are not too happy with it.

Obviously, we could have done better.

It did miss Wall Street expectations here.

I think over the long run, you guys have been better at setting expectations relative to some of the other stocks in the space.

I think investors have definitely rewarded your Company for that.

As I hear it from some of the questions here and the answers, it sounds like we still have some cost challenges.

We are catching up for the new volume reality.

We don't know where energy and coal markets are ultimately going to shape out, or shake out.

As your comps get more difficult on earnings growth this year, consensus definitely ramps up a lot in 2015.

Is it getting more challenging to see double-digit growth this year?

I know you don't want to explicitly guide, but can you help folks on this call understand where this year could shake out?

Sure, Brandon, and you're exactly right.

We're not going to speak specifically about what to expect out of the year from a percentage perspective.

I think you've got the tone pretty well right.

When I look at the first quarter, I'm proud of the hard work that the team did in terms of trying to get the cost adjusted to the volume reality.

I'm disappointed that we couldn't have done better; because we here at the table see the opportunity of what the franchise really has the ability to deliver.

Having said that, I am confident as I look forward that our operating team and all the teams are focused on doing the right thing.

As we look forward, we're adjusting to current volumes at the same time as we're trying to determine what does peak season look like, and what does the growth rate look like from here?

I would tell you, there is no change in my confidence, both this year and over the long run, of being able to generate out of this wonderful business, this beautiful franchise, the kind of financial performance and return generation that you have seen historically.

We've said before, it gets more difficult.

From a 65% or a 64% or 63% operating ratio, margin improvement gets more difficult.

But we remain absolutely confident that it's there, we will realize it, and continue to realize it.

Could you maybe talk a little bit more explicitly about some of the drivers of margin improvement this year, outside of the benefit from the fuel surcharge?

It does sound like you have quite a bit of compensation and benefit headwind, given the wage increases.

Obviously, if volume could come in flat or maybe even negative for the year given some of the uncertainty, what's the ability to drive leverage in the business then?

Brandon, I think Rob and the team have outlined a fair portion of that already this morning, which is, as we look forward, Eric said he's in an environment where pricing, core pricing gains looks good.

Cameron and team are working on right-sizing the business and generating efficiencies through the UP way and by taking variability out of the network.

Then we're looking for all other opportunities to generate margin improvement.

Rob, is there anything else you want to add to that?

Brandon, I would just remind you that it's the same levers that have got us from where we were many years ago to where we are today.

While volume is our friend, we don't use it as an excuse.

You saw us perform well in years when volume did not play in our benefit.

We know we've got some challenges here with volumes.

We've got challenges with mix, as I called out.

But we're going to continue to be relentlessly focused on cost control and cost management, as Lance and Cam have outlined.

As Eric talked about, pricing is another key driver here.

We're going to improve the value proposition in the market place, and pricing will continue to be a strong driver of that.

To get to our longer-term guidance of a 60 plus or minus operating ratio by full-year 2019, it's going to take those same efforts and same focus from the organization that we're going to continue to focus on.

Thank you.

Thank you, Brandon.

Our next question comes from the line of Chris Wetherbee with Citigroup.

Great, thanks.

Good morning.

I want to try to understand a little bit better about maybe what the outlook was internally as you guys thought about 2015, and in particular, the volume opportunity.

I know you were looking for I think positive volumes for the full year, and that looks like that's a little bit in question.

We've had tough comps understood coming up in the next several quarters.

As you're trying to adjust to the volume environment, I'm trying to make sure I understand where your heads were at coming into this year versus where we are now?

It seems like maybe a little bit bigger of a change than I was anticipating.

I want to make sure I understand that?

Well, we don't specifically address what our budgets are forecast for coming into the year.

What I will say is the big change is actual growth and then actual decline.

The biggest change there was coal, which was somewhat surprising in terms of how weak it turned out quickly.

Of course we had the difficulty with the West Coast ports and the labor dispute.

We had pretty good visibility to that.

Looking forward, Eric, why don't you talk to us about what your markets look like as you look into the future.

Yes, I think what Lance said is accurate.

The big swing factor is coal.

Certainly the first quarter, we talked about the international intermodal West Coast port labor dispute that we think will normalize throughout the year, but the big swing factor is coal.

As you know, Chris, if you go back really probably four months, oil price outlook for the year was still up in the $90s.

It's now in the $50s.

Of course, that had a swing factor that's impacting broad swaths of the market, also.

Okay, that's helpful.

I guess that certainly makes sense.

Maybe sticking on that coal question, and maybe one for you, Eric, in terms of the mid-single-digit outlook for the second quarter that you are thinking about, Colorado, Utah obviously under-performed pretty meaningfully relative to PRB in the first quarter.

Is that inherent in the second-quarter outlook, or do you expect maybe PRB to soften a bit on the comps, and then you still have weakness in Colorado Utah?

I'm just trying to get a rough sense of how you think about coal mix in Q2?

The mid-single-digit assumes a continued profile with Colorado Utah, particularly because we are not expecting export markets to pick up significantly this year.

So PRB roughly similar performance that we've seen?

Thereabouts, driven again, as we said, by weather and natural gas prices.

Okay, thanks very much for the time.

I appreciate it.

The next question is coming from the line of Scott Group with Wolfe Research.

Hi.

Thanks, good morning.

Rob, I wanted to ask you about some of the yield drivers in terms of how much of a negative do you think mix could be in the second quarter?

On the pricing, the 50 basis points from the legacy pricing maybe is a little lower than would have expected.

Wondering if that's a timing issue and that ramps, or is this a -- the volumes are down, so it just limits the impact of the legacy re-pricing, and it's going to stay about 50 basis points the rest of the year?

Yes, Scott.

Let me address the mix comment.

As you know, we don't give specific guidance around mix, because there's a lot of -- again, the beauty of our franchise is we have a lot of diverse business opportunities.

As a result, not uncommon to have a fair amount of mix.

But we are highlighting that given the change anticipated in both the coal and the fracking environment, and continued strength in our intermodal that's likely versus the first quarter, likely to be a bit of a mix headwind as the rest of the year plays out.

How precise that will be, we will have to see.

I'm not going to give precise guidance around that.

In terms of your pricing question on the legacy contributor, as I have always said, you can't straight-line.

Don't take what we re-priced in past years on legacy and assume that each contract is the same.

They are all different.

That's what those contracts GAAP'ed to market, and that is what we took them up to.

To your point, broadly, not just on legacy but I would say broadly, I'd say that the way we look conservatively at calculating our price, as you know, the fact that volume was down in some key markets did have a negative impact on the way we contribute price.

I view that as actually a positive.

As the volumes recover, we would expect to enjoy the improved returns on those business volumes that we have been able to re-price.

Okay, and the contracts that you re-priced for 2016, is that showing up in this number already, or were they just priced but the actual impact doesn't show up until next year?

It's also in that number.

Okay.

Last thing, just going back to the question about the buybacks.

Was your point about the extra dividend payment in the quarter -- in your mind, does that have an impact on how much you bought back in the first quarter, and there's -- in theory, then, you go to a more normalized dividend just once a quarter, there's more left for the buyback, or they're independent?

They're independent.

I was just calling out so that folks understood that there were two dividend payments in the quarter but I would not make any correlation to that and the share buyback pace.

Okay.

All right, thank you, guys.

Thanks, Scott.

Next question is coming from the line of Ken Hoexter with Merrill Lynch.

Great.

Good morning.

Just to kind of follow up on some of the volume commentary.

Maybe Eric, just talk a little bit about -- a little bit on chemicals given that that's usually a little bit of a precursor for the economy.

We've seen them trend a little weak lately, and I know longer term you're looking at a lot of plants opening up in the Gulf region but maybe more in near term this year, is that a precursor for the industrial side of the economy?

Kind of maybe give a little bit of your insight there?

As you know, our chemicals business net of crude by rail actually was pretty good in the first quarter.

We were up 1, 2 percentage points in the first quarter net of crude by rail.

So we think that that is a good precursor to the economy.

Plastics business really ties pretty closely to construction and automotive and all of those and even on the consumer side, the retail side of house, and our plastics business was up in the first quarter, as we mentioned.

So we think that all of those trends indicate the strength in the North American economy.

As Rob said earlier, we had some headwinds in coal, some headwinds with shale stuff, but if you net that out, we feel pretty good about some of the underlying strength of the economy.

Thanks for that insight.

Just a follow-up, Lance, maybe if -- there's been a lot of discussion out at east and in Canada about industry consolidation.

Can you address Union -- I know we did this a couple of quarters ago, but perhaps revisit your thoughts on how the market has changed over time and your thoughts given some of the activity or discussions at least on the eastern and Canadian half of the country?

Not country, but Canada.

Yes, Ken.

Current discussions have not changed our position on industry consolidation.

We are not in favor of it.

We don't think it's the right thing to do at this time.

Okay.

Great.

Thanks for the quick answer.

Sure.

Our next question is from John Larkin with Stifel.

Good morning, gentlemen.

Thanks for taking my question.

You'd mentioned that grain exports in some cases were still pretty strong but that the export coal was getting hit and that was due to the very strong dollar.

Could you give us a maybe a more complete picture of the impact of the strong dollar on the exports across more than just grain and coal?

The grain exports really we're driven by milo and soybeans.

We had a great soybean crop and China is really pulling those into China and spreads between Gulf Coast, West Coast have narrowed in terms of ship spread.

That really is driving milo and beans from the central part of the US into China which was a positive for us.

We still are seeing headwinds from the strong dollar in exports across probably a pretty good chunk of the economy.

When you think about steel, steel is being impacted both with imports particularly from Asia coming into the country, and domestic steel producers are struggling.

It's also being impacted in terms of machinery exports, construction and farm machinery exports.

Those are headwinds just because of strong dollar.

On the wheat side, we are seeing some difficulty in the US wheat crop competing in the export markets partially due to the strong dollar.

The strong dollar is, as you would expect, impacting exports on a pretty wide swath of the economy beyond just coal, and it's helping imports.

You should see our intermodal import business and other import business strengthen as you go throughout the year, but the strong dollar is having an impact.

Thanks for that.

And then maybe a question on the ever-changing energy market.

Do you have a sense for where oil prices would have to go in order to recharge the activity levels in the shales?

And then related to that, how high would natural gas prices have to go in order for the utilities to switch from natural gas back to coal?

If I could predict energy markets, I would probably be sitting in a different spot than today.

There is a lot of conventional wisdom out there, and I think the conventional wisdom was that you needed to be in the 70s for the US shale markets to be strong.

I think even if you look today with oil in the 50s, there is some shale but it's still going pretty strong.

The Permian shale is still doing relatively well.

The Eagleford shale is not.

I think there is a spread there, again, conventional wisdom on natural gas is somewhere in the [300], 325, 350.

It's probably a crossover range but, again, depends on a lot of different things by utility and by region of the country.

John, just a little more detail.

Clearly, we'd like to see oil prices back up in the 75 plus range.

Clearly, that would be better for us.

But all of the guidance has been wrapped around no change in energy prices going forward for 2015.

Is that a fair assessment?

Yes.

Okay, thanks very much.

Our next question comes from the line of Allison Landry with Credit Suisse Group.

Thanks, good morning.

Following up on your earlier comments on the underlying strength in base chemicals and plastics, can you remind us how much of your business is tied to the housing and residential construction markets?

Yesterday, we saw existing home sales numbers that surprised to the upside and new home starts are expected to be pretty solid for the year.

I just wanted to get a view sort of -- an all-inclusive perspective of the commodities that you move that are tied to these markets and what that represents as a percentage of volume or revenues.

I think, historically, we have said between 5% and 10%.

We still think that that's a good estimate.

Housing starts were down in February and March.

I think the housing start number comes out today or tomorrow.

I think there is some expectations it's going to be up because weather impacted the number being down the last couple of months, and the existing home sales number was very strong, as you say.

Again, we tend to factor that into our optimism about the underlying strength of the economy.

Okay.

That's helpful, thanks.

As a follow-up question, given that your main competitor has seen some modest improvement in velocity, albeit off of some easy comps, do you think that the risk of losing some of the traffic that you gained last year as a result of their issues is now somewhat heightened?

It seems like there's plenty of traffic to go around at the West Coast ports but BN yesterday actually made some comments that it has gained some lost Ag business.

So I just wanted to get your perspective there.

Allison, this is Lance.

The BNSF has been showing improvement in their service product.

We would anticipate that would happen.

They are a very good, vibrant competitor.

Eric had said, historically that some of the business that we had shipped last year, certainly in Ag, maybe to a lesser extent in some other commodities was naturally a better fit for their franchise, their network, and would likely go back.

I think you see that in the Ag line in terms of reported volumes.

Eric, do you want to add anything to that?

No.

Okay, excellent.

Thank you for the time.

Are next question is coming from the line of Tom Kim with Goldman Sachs.

Thanks.

I have a couple of questions.

First on intermodal.

Can you give us a sense as how much your intermodal volumes might have been impacted by the West Coast port congestion and how long you think it might take for that congestion to unwind and sort of filter into the Q2 numbers?

Eric?

Yes, our intermodal -- international intermodal volume was down kind of low teens in the first quarter.

Again, we expect that as you catch up throughout the year that that will normalize and most of that will catch up.

We do not expect to see any permanent deterioration of our West Coast international intermodal business.

Okay.

Would it be possible to give us a sense of how much your fuel surcharge might have impacted RPUs for that commodity group?

I know, Rob, you'd mentioned that it impacted first quarter a little bit more than the rest of the business.

We don't break out by commodity, Tom, the specific surcharge contributor to each individual commodity but there are timing differences by different contracts and we have some 60 plus different mechanisms.

There can be and there are timing differences actually on the intermodal line than versus some of the other lines.

Okay.

And then just with one, Rob, as a follow-on, you had commented that you anticipate some potential mix shifts ahead which could impact your revenues.

Can you talk about how the mix shift is going to affect your RPMs versus carloads?

Because I noticed that your RPMs were down about 4% in the first quarter and carloads were down about 2%.

I would think that this is going to impact your real productivity, unit costs, and then ultimately margins.

So I'm just wondering if you can help us frame how we should think about the impact of efficiency that my be affected by RPMs potentially being weaker than carloads?

I'm not going to break it out as finitely as you're asking, Tom, but I would just say that mix is something we deal with.

From a cost standpoint, that just presents challenges and opportunities depending what the volume actually is for the operating team and Cam is all over improving the cost structure.

In terms of the top line, the pricing line or the impact on revenue, again, it will depend upon which markets actually are stronger than others.

But we do anticipate, as I called out, that there will be a headwind for the balance of the year.

And the simple explanation for why there is a headwind on the revenue line is we think there's going to be stronger growth in that and a lot of it's the recovery with that intermodal business we just talked about, and softness in coal and and the frac markets are the negative drivers, if you will, on that mix headwind that we anticipate.

So we're calling that out directionally as a challenge, but we are not using that as an excuse not to continue to run as efficient operation the cost side as we possibly can.

Thanks, Rob.

Our next question is from the line of Jason Seidl with Cowen and Company.

Thank you, and gentlemen, thank you for the time as always.

When you look at your core pricing of 3.50%, it's kind of in line with what I expected, but is it occurring in certain areas?

I mean, in terms of are you getting more pricing now out of that truck competitive business than you were a year ago?

Is that's what driving the improvement?

Eric?

We're getting a good market base pricing across our book of business.

As we've said before, a certain percent of our book of business in fixed or multi-year, longer-term contracts so you can't touch them.

We've talked about that before but for the things that we are able to reprice, the demand is strong.

The impacts in terms of the challenges that the trucking industry is having are in our favor, and we see strong opportunities to price out value across our book of business.

Does it get any easier to price intermodal product once the port clears up or did that not really have much of an impact on your pricing?

Pricing is always difficult no matter when you do it.

I would guess most of the international intermodal business would not be in spot pricing type of agreements.

Okay.

And to piggyback on Allison's question as a follow-up, you obviously benefited from BN last year in several different categories and you locked up some of that business in some longer-term contracts.

When do those contracts start expiring?

We don't talk about individual contracts.

I don't think we mentioned that last year.

We don't talk typically about individual contracts.

Okay, fair enough.

Again, thank you for the time, gentlemen.

Thank you, Jason.

Our next question is from the line of Ben Hartford with Robert W. Baird.

Good morning, guys.

I know a lot have been asked.

Eric, I did want to follow up on domestic intermodal pricing in particular.

Given the decline in crude, I know there are certain lanes now where you can find intermodal pricing all-in that is competitive to trucks.

You guys are more insulated to that with longer length of haul.

Let's assume that crude does stabilize here around $50, $55 a barrel.

As you look into 2016, do you see a situation where intermodal rate growth does have to lag, truckload rate growth going forward at current levels of crude because of the lower energy price?

And some of that disparity, that historical disparity between truck and intermodal might have narrowed over the past several years.

Can you provide some perspective there?

Yes, I guess I'm not quite understanding the foundation of your question.

I think actually truck pricing is increasing.

If you look at most of the truck pricing indexes, because of the challenges that the truck industry is having, they're getting high single-digit type price increases.

I would -- I think that suggests that instead of the gap narrowing it might even be expanding rather than the minimum staying the same.

Okay, well, yes, truck pricing has increased.

I was asking as we go into 2016, should we expect domestic intermodal pricing growth to mimic truckload or does it need to lag what the rate of truckload rate growth is to make sure that there is enough of an all-in price delta between truck and intermodal.

We think we have a value proposition and we are going to continue to try price that strongly.

Okay, that's helpful.

Thank you.

Thanks, Ben.

Our next question come from the line of Jeff Kauffman with Buckingham Research.

Thank you, thank you, very much.

Congratulations on a very tough quarter.

I want to go a different direction.

We are hearing a lot about the drought in California, the lower water tables, the reduction water use.

And also during the quarter, we heard I think we focused with the port issues on the inbound movement of products but we also heard there was a fair amount of Ag and produce related products that could not get off the West Coast.

Could you discuss how that affected you in the quarter and how you're thinking about this drought in California in terms of the growth of your western business?

Eric?

The drought in California, as you know, the authorities right now in California are trying to insulate the Ag industry and really are putting the onus for water conservation on residential customers.

Politically, how long that could sustain what the Ag industry being insulated is anybody's guess.

I do think that if you look at the Ag industry in California, you kind of profile who uses the most water to the least water.

I think our customer base will probably be in the using the least water category.

We feel pretty good that the drought will not have near-term material impacts on our food and refrigerated business.

We feel pretty good about that, short of some armageddon type of scenario.

In terms of your export question, yes.

Ag products, particularly refrigerated products, do go export off West Coast ports.

They were similarly impacted just like the imports were impacted.

So just like things couldn't get on, things couldn't get off.

They similarly had impacts fourth quarter of last year, first quarter of this year.

Okay, thank you.

And just the follow-up.

Last year, we heard about truckers moving water into California on an as-needed basis.

Maybe I'm going off the deep end here but is that a potential revenue source for you over the long run?

I do not think that's material.

Okay, thank you.

Our next question comes from the line of Matt Troy with Nomura Asset Management.

I had a question, as you talked to your utility customers, you mentioned natural gas switching impacting some of the Colorado Utah basin business.

Just curious with echoes of 2012 still lingering, how should we think about the potential for additional or incremental vulnerability in your coal business?

What's your sense in speaking with coal customers that as nat gas approaches $2.50 now and potentially lower, how much has switched to how much remaining could switch?

What's the vulnerability there?

I think the things that can switch probably have switched.

As natural gas goes lower, there might be some incremental impact you would expect there would be.

But I think we've seen most of it.

Matt, you may recall last time natural gas prices go to historically low levels, we really in our territory didn't see material switching until it got sub-$2.

That doesn't necessarily predict the future, but what we are seeing though, and I think the bigger impact today rather our utility base switching from one source to another, they are able to buy electricity off of the grid that is being produced by somebody else, perhaps from gas.

So we're seeing that impact as opposed to a pure switch, turning off the coal plant and turning on the gas plant in our territory.

Thank you, and my follow-up would be, you mentioned PTC.

I'm just curious there, I think when it was initially enacted, nobody believed it would be completed by 2015 in many of the various stakeholder groups, but here we are knocking on that deadline.

Curious in terms of your conversations with Washington, what it is that the industry is proposing is the path forward in terms of either time frame or incremental expansion to the window?

Kind of an off-the-wall question here, what if Washington in all its rational thought and reason decides to hold you to letter of law, what would be the implications if the industry does not make the deadline and they are not flexible?

Thanks.

Matt, this is Lance.

I'll start with a path forward.

Cameron had mentioned, we believe that virtually everyone involved understands that there has to be an extension because the industry is not going to make the date.

That extension is going to have to come through Congress.

There are a number of different vehicles that could make that happen, and we're monitoring all of those potentials and giving feedback and input into our thoughts to help navigate that process.

From the perspective of having an extension occur, I remain confident that that will happen.

It just reflects the reality of the situation.

From the perspective of what if we don't get an extension?

There are penalties outlined in the current regulation, current law, and we've been discussing what our actions would be should an extension not occur.

That would be a horrible outcome for the industry.

I don't believe that's the way it's going to go, but we will be prepared for that very, very, remote possibility as the year comes to a close.

Thanks.

That's my two.

Our next question comes from the line of John Barnes with RBC Capital.

Thank you, guys.

First on the port situation, can you talk a little bit about -- you've been through this a couple of times before.

Can you talk a little bit about your view of a return of market share to the West Coast ports or do you think some of what's swung to the East Coast and other ports is more permanent in nature?

I'll start and then I'm going to turn it over to Eric.

We've said for quite some time that there may be as a low-single digit number of share transfer from West Coast to East Coast when the Panama Canal opens up.

The reality from our perspective is the most efficient vessels and the ones that are being commissioned, as we speak, A, won't go through the modified Panama Canal and B, there needs to be some significant work to occur on the East Coast ports in some circumstances to handle those.

Having said that, there is also a natural cost/value proposition that makes those imports want to come into the West Coast.

Eric, do you want to add anything to that?

No.

I think that about covers it, so.

So you still view it as a couple of percentage points of market share.

Yes, currently East Coast has about 31.

Historically, we've said that could go to 33 with the Panama Canal opening.

But as Lance said, the larger ships that are being built today really won't even be able to go through the expanded Panama Canal.

There is a value proposition to the West Coast.

If you look at ship spread in terms of the costs, West Coast versus East Coast, and if you look the costs of over land, bridge, rail, transportation, there's a natural economic driver to the West Coast.

Okay.

My then other one is, I know you've got an uncertain volume environment right now at play.

I get where the pressure points are, but if what 2014 taught us anything is, you can get caught on the other side in a more robust growth environment just as easily.

How do you go about balancing where to pull in right now, where to pull the reins in, especially given what you experienced in 2014 where you really ran out of certain resources?

How do you make sure that you don't pull back so much trying to balance in this environment that should growth re-accelerate that you're not back in a similar situation as you were in 2014?

Cameron, can you handle it?

In 2014, our locomotive search fleet strategy served us very, very well.

When business came on, we were able to match that business.

As we look into this year, redeveloping that search fleet and being agile, as we mentioned, is a very critical asset and a very critical initiative for us.

We take Eric's forecast and where he predicts business will be, and then we make our moves appropriately.

Okay.

Thanks for your time.

I appreciate it.

Sure thing, John.

Our next question is from the line of Cherilyn Radbourne with TD Securities.

Thanks very much, and good morning.

With respect to the West Coast ports, I was just wondering if you could comment on the challenges associated with big ships, the new shipping alliances, which may remain once the backlog is cleared, and what you're doing internally and with your supply chain partners to cope?

I'll start and then Cam can finish.

You're right, there is going to be a challenge, and basically the challenge is because the new alliances, as they bring their business together may bring it all to one terminal that then it overwhelms the capacity of that individual terminal on the port vis-a-vis it being spread out between multiple terminals.

So that is a challenge.

The alliances are working through that the challenge the terminals are working through.

That was a challenge starting to be seen before even the port slow down.

We, from outside, are working with our customers developing planning practices and protocols and capacity management.

Protocols that we are sharing with them to basically say, here is the capacity within this window that we can do and to the extent that there is a larger than that flood because of alliance activity through a terminal, what do you need to do to correct that.

We did see it in the past.

We will see it in the future.

We are working with them to spread that out.

Our most important asset in the LA basin to stay up against the intermodal business is locomotives.

And we have spent over the last year developing a model that stays up against Eric's forecast of business week to week to week.

And it's been very successful.

Our originating, on-time departures out of the LA basin are in the mid-90s and we feel very confident we can keep it there.

Great, thank you.

That's all for me.

Thank you.

Our next question comes from the line of Cleo Zagrean with Macquarie.

Good morning, and thank you.

My first question relates to the impact of mix on operating ratio.

Can you please clarify for us whether you expect mix to be a headwind or a tailwind?

If a headwind, is it mostly because of declines in coal and frac rather than international intermodal coming back?

Thank you.

Rob?

Cleo, the headwind that we would anticipate from the mix going forward is a result of, we expect, strong intermodal and softer coal and fracking related activities, as you're calling out.

But as always, we're going to continue to focus on being as efficient as we can on the cost side.

And as Eric has been talking all morning, we're going to continue to price to the value proposition.

We're not throwing the towel in in terms of the margins but we know we're going to face the headwind of those mix changes.

Thank you, and my second question relates to coal.

Can you please discuss to what extent share shift may have affected your volumes in a flat western coal market in the first quarter?

And your outlook for Colorado/Utah, would any kind of detail you want to share on the market for that coal and whether your long-term export outlook has changed.

Thank you.

Yes, there were no material contractual share shifts that we saw.

And what about Colorado/Utah, Eric?

Yes, call there were no material share shifts.

Okay, because we have seen BN up like the mid-high-single digits and your volume is down.

And so I was wondering whether those are related in any way.

It's just a totally separate track, so to speak?

We can't speak to their business, naturally.

We kind of describe the dynamics we saw in our business.

It would not surprise me if they had a much greater opportunity for inventory replenishment for their customers in the first quarter than we had simply because we had more deliveries last year.

It would not surprise me if they had an opportunity for greater inventory replenishment.

Thank you very much.

Our next question is from the line of Brian Ossenbeck with JPMorgan.

Thank you.

Good morning.

So I just had one quick one on frac sands that you're adjusting to the current outlook down mid-teens in the second quarter.

But as opposed to something like coal where you have natural gas and inventories, as you mentioned, is little bit of a leading indicator.

With sand, it's a little bit tougher as the amount of sand per well continues to go up and different basins move ahead at different rates.

So do you have any sense of the visibility into the second half of the year either in what you're seeing in natural orders or talking to your customers directly and what the completion programs might look at at this point?

Thanks.

I'm not quite sure where you are -- what you're asking but it would basically be similar to what we kind of said before.

Brian, were you asking for kind of a crystal ball on frac sand in the second half of the year?

Yes, please.

I was just asking if you have -- how you think about the second half of the year with frac sand, if that comes from your --.

Yes, I think our frac sand volumes based on current activity will probably be more similar to 2013 volumes than 2014 volumes.

Okay, all right.

Thank you.

Our next question comes from the line of Keith Schoonmaker with MorningStar.

Thanks.

Noting the strength in autos in the period, will you please comment on how your expectations for trade with Mexico compare with somewhat tempered overall growth rates, perhaps auto, grain, and otherwise?

So Eric, let me jump in just on the very long term and, Rob mentioned this early on in a comment about our franchise.

Because we do serve all six rail gateways to Mexico and because of Mexico's opening up of some of their core industries, as well as the significant foreign direct investment from the very long-term perspective, we feel very, very good about our business and growth with Mexico.

Eric?

I have nothing more to add with that.

Mexico continues to be an upside for us.

We've got a great franchise and were optimistic about the outlook.

If Mexico does grow outsized compared to the business in the US, would this be [OR] accretive?

Keith, not necessarily.

I would -- that question actually has been in fact what we have experienced probably about the last decade.

Our volumes in and out of Mexico have grown at a slightly faster pace than the overall enterprise volumes.

I wouldn't try to draw any conclusion in terms of margin differential between those moves.

Is it longer haul, Rob?

It can be but, again, I would say it's -- in the overall scheme of things, it's no different than our overall enterprise mix.

Great, thank you.

Ladies and gentlemen, this concludes our question-and-answer session for today.

I would now like to turn the call back to Mr. Lance Fritz for closing comments.

Thank you, Rob.

What you heard us talk about today was our first quarter where we came into the year, volumes changed on us dramatically, and we've spent the quarter aggressively trying to right-size and just fell short of that mark.

As we look forward into the second quarter, we're looking forward to continuing that work and improve our service product and efficiencies and we're confident that's going to happen.

We look forward to talking to you about it the next time we get together.

Thank you.

Ladies and gentlemen, thank you for your participation.

This does conclude today's teleconference.

You may disconnect your lines and have a wonderful day.