Canadian National Railway Company - Q2 2015
July 21, 2015
Transcript
Speaker 17
Good morning. My name is Aaron, and I will be your conference operator today. At this time, I'd like to welcome everyone to Canadian Pacific's second quarter 2015 conference call. The slides accompanying today's call are available at www.cpr.ca. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question-and-answer session. If you'd like to ask a question, simply press star then the number one on your telephone keypad. If you'd like to withdraw your question, please press the pound key. I'd like to introduce Nadeem Velani, AVP, Investor Relations, to begin the conference.
Speaker 16
Thank you, Aaron. Good morning, and thanks for joining us. I'm proud to have with me here today, Keith Creel, President and Chief Operating Officer, Tim Marsh, Senior Vice President, Sales and Marketing, and joining us today for the first time, Mark Erceg, our Executive Vice President and Chief Financial Officer. Before we begin, I want to remind you this presentation contains forward-looking information. Actual results may differ materially. The risks, uncertainties, and other factors that could influence actual results are described on slide two, in the press release, and in the MD&A filed with Canadian and U.S. regulators. This presentation also contains non-GAAP measures outlined on slide three. The formal remarks will be followed by Q&A. In the interest of time, we would appreciate if you limit your questions to two. It is now my pleasure to introduce our President and Chief Operating Officer, Keith Creel.
Speaker 12
All right, thank you, Nadeem. Let me start with wishing everyone a good morning. Thank you for joining us this morning. I know most of you are sitting there, sitting there now expecting to hear from Hunter, which you normally would. Although we may be from the same neck of the woods, as we say in the South, you obviously know that I'm not Hunter. So with that said, Hunter can't be with us today. He recently had to undergo some minor maintenance procedures to his lower extremities. His recovery process has obviously been slower than I know that he hoped for, and although Hunter has many great attributes, patience is not one of them, as we all know. He knows one speed, which in our terms in the railroads, about throttle 8, it's wide open.
You combine that with the fact that he doesn't really take instructions well, he's not really accustomed to being told what to do, so he didn't exactly follow the doctor's orders with his recovery time. He jumped right back into the seat less than a week after his procedure. He's been very active since, especially last week, which frankly, has impeded his recovery, and finally, his doctor has put his foot down and said, "No work, no travel," and insisted that he takes the time to fully recover to get back to a hundred percent. I've spoken to him several times, actually spoke to him yesterday a couple of times. He obviously trusts me and our team to carry on, which is exactly what we're gonna do. So it's business as usual at CP. We expect him to return soon.
In fact, I told him we'd save him a boxcar or two for him to switch with his new and improved bionic legs when he gets back. I'd also like to say a few words about the news this morning relating to our changes on the board, including the appointment of Andy Reardon as our new chairman, who is in town and was kind enough to take his time out of his schedule to join us here this A.M. So welcome, Andy. I know that I speak for the entire board when I say that we're extremely fortunate to have an individual the caliber of Andy Reardon to become our new chairman. Andy has been involved in the railroad industry for decades. In fact, Andy and Hunter date back to the mid-1970s when they both worked for the Frisco Railway, where they first started working together.
They served together again for the Illinois Central Railroad a little later in their careers, and then again, as Andy transitioned to CEO of TTX. Hunter was a board member on TTX and had an opportunity to work again. Andy is a well-known and extremely respected professional across all the Class I railroads, who has greatly contributed to our industry over the years. I know for a fact, Hunter has the utmost respect for Andy and appreciation, as do I, and there's no doubt in my mind that Andy is the right leader at this time for our board. Rest assured, he will continue to help guide the new CP in the best interest of our shareholders. So welcome to the chairman's position, Andy.
In addition, as we advised in a press release this morning, Gary Colter and Krystyna Hoeg have tendered their resignations over disagreements relating to corporate governance matters. That said, I can assure you that the board at CP is united. We're focused on our job, which we take very seriously, servicing the best interest of our shareholders. So with that said, there's not anything more I can add on these matters. Let's move on to the financial results of another record-setting quarter for CP. As Mark will take you through shortly, CP produced an operating ratio of 60.9 in the second quarter. That's a 420 basis point improvement, second lowest in the company's history, which is a strong testament to this team's ability to adapt to a fast-changing business environment.
Our reporting earnings per share of 2.36, which on an adjusted basis equates to 2.45 per share, represents a 16% improvement. The team obviously responded to the changes in the business environment, which you can see reflected in these results. That said, as we head into the second half of the year, you'll see additional benefits from the actions we took in the second quarter, rightsizing our asset base, as well as our ongoing focus to constantly align our resources lockstep with our business demand, be it people, be it locomotives, be it cars. This operating model is one that works in any environment. It allows us to adjust our assets, control costs as business demand reduces, and be prepared with assets in a lower cost base to leverage the bounce back rapidly as demand increases.
So I'm gonna give you a little color on some of the performance, which we're extremely proud of. In what was clearly a challenging environment from a volume and a top-line perspective, with volumes down about 6% this quarter, I'm proud that this operating team were able to adapt and respond to these conditions by controlling what we can, sweating our assets, and executing this operating plan. The team was quick to make changes in our daily operating plan, changing our train design to match the business, and then, more importantly, executing it to mitigate the volume weakness and reduce our train miles by several percent. So despite this volume weakness across the bulk and the crude portfolio, which by nature has a greater proportion of unit trains, our train length was still up 3% year-over-year. You know, Hunter told us-...
Advise the teams as well as advise the market that the beginning of the year, 2015 was gonna be a year for terminals at the CP. I'm particularly proud of our performance to date in this area. We've vastly improved our terminal productivity and throughput, helping to lower our cost structure, reduce our CapEx needs. With greater asset utilization, we've improved our product offering at the same place in the marketplace. We've reduced assets and costs while driving productivity level improvements in all 10 of our major terminals in the network, in spite of this business softness. This is an area myself I truly enjoy rolling my sleeves up and digging into.
I can tell you, I firmly believe to run a high performance operation, you have to create and maintain a constructive tension of operating accountability within the culture, which requires as a leader, to be validated. So I'm personally spending time in our yards across the network. In fact, I recently took a validation trip into one of our major yards in Canada a few weeks ago, arriving unannounced about 2:00 A.M. with my rental car and my handset, my radio on hand, monitoring the activity in the yard. Needless to say, after I watched the team work for about an hour, I went to the tower and spent the next 16 hours in the operation. I was able to identify quite a few productivity improvements that they're converting now, which is saving us $ thousands a day while improving our service offering to our customers.
But this isn't to say that things weren't going right there. They've done a lot of, a lot of good things right, but it obviously says that the work is never done. As much as we've done at this company, and as many opportunities we've converted, there's so many more left to do from a process standpoint, as well as a culture standpoint, a leadership development standpoint. That's one terminal. We've got over 30 in the network, so there's more work to follow there. Another exciting step improvement we started implementing this quarter is the use of remote control locomotives in our switching operations, which allows a conductor from the ground to operate the locomotive and switch the cars, rather than the traditional method of relying on a locomotive engineer and a coupled locomotive, plus the conductors and the switch persons on the ground to do the work.
So we've got a reduced headcount demand for engineers, with step improvements to match in safety and productivity in the switching operation itself. This initiative will be completed by the end of the third quarter, which will result in a minimum annualized direct labor expense of CAD 12 million, plus additional benefits that are harder to put an absolute number to, with increase in safety performance as well as productivity performance. Another area of impressive performance where we led the industry improvement is velocity and network speed. As you may recall, back when we rolled out our multi-year plan last year, speed and velocity is a key theme in this plan, calling for a 20% improvement over the four-year plan and network speed. So far this year, we've already achieved that goal, and we're accelerating the operating performance.
We've been able to take out, as a result, over 20% of our locomotive fleet and made about a 6% headcount reduction, with more opportunities ahead. We're gaining momentum in the third quarter as we speak. So while we may have hit some unexpected business demand, macroeconomic headwinds in the short term of our multi-year plan, we're much further along from an operating point of view, which creates powerful leverage as the business demand comes back, growing at a low incremental cost. I'm gonna turn it over to Tim to provide some color on the revenue front.
Speaker 23
Good morning. Thank you, Keith. This quarter, the CP reported a year-over-year revenue decline of 2%, broken down as follows: The volumes as measured by the RTMs were down 6%. Our price was up roughly 3%. We also received a 1% lift from other freight, offset slightly by the impact of the negative mix. Our fuel and our foreign exchange, FX impacts were essentially a wash. Couple items I need to bring up that are relative to our original expectations, were the weakness in the U.S. grain and energy-related volume. The U.S. grain saw volumes as the U.S. farmers elected to sit on their crops, given the strength of the U.S. dollar, the global supply, and the lower commodity prices.
This is largely considered a timing issue, and as we look to the second half of the year, we expect these volumes to right size. The numbers are already starting to move in the right direction, as our stockings of trains have doubled since the lows of May, and our dedicated train services have been ramping up significantly in the recent weeks. Our lower commodity prices and tight spreads hindered the energy-related commodities like the crude, the frac sand, and the steel. With additional pipeline coming on line over the quarter, movements of the heavy crude were particularly challenged. As we look to the second half of the year, the recent widening of the crude spread has us cautiously optimistic that things may improve. The key is the sustainability of these spreads. We're currently modeling a 10%-15% reduction in our energy-related commodities for the year.
Our domestic intermodal had some puts and takes this quarter, with the carloads down 4%, but the RTMs up 2%. This is largely a reflection of our lower Expressway traffic, short haul and our longer long haul, Canadian traffic. It's also fair to say that we did see some regional softness as a result of the slowing economic conditions, as well as a tough compare for 2014 in the domestic business. I'd like to point out that the year-over-year decline in cents per RTM is largely a reflection of the lower fuel surcharge revenues. And with all that said, we're positioned for a stronger second half in the intermodal state. Our RTMs were up 7% in June. July is tagging along pretty good, and we do believe that we're off to a good start for half two of 2015.
So to sum it up, there's still a lot of uncertainty in the marketplace today, and we feel that it's prudent to revise our revenue guidance to reflect that. Based on the trends we see today, we're assuming negative volumes for the remainder of the year, but we expect pricing to remain strong and disciplined. With that, I'd like to hand it over to Mark. Mark?
Speaker 12
Thanks, Tim, and good morning, everybody. I'm very excited to be here with all of you for my first Canadian Pacific earnings call.
Speaker 14
... During my first 60 days, I've done everything I can to learn about railroading from the ground up, which includes visiting a number of yards and terminals across our network. As part of those visits, I've had the good fortune to meet with and interact with many of the dedicated men and women who, under Hunter and Keith's strong leadership, are transforming Canadian Pacific into a world-class railroad. I've also had the opportunity to ride along in the cab of a locomotive, and just for the record, it really is as fun as it looks. I count myself lucky to be receiving the best railroad education from the industry's best railroaders, and I look forward to working with all of you in the years ahead.
Turning to the matters at hand, and since Tim has already provided plenty of color on the revenues, I'll jump straight to the bottom line. CP's second quarter adjusted earnings per share was $2.45, up 16 cents versus year-ago. Reconciling back to our reported earnings per share of $2.36, we adjusted for 2 items. First, we excluded a $10 million non-cash gain of $0.05 per share related to FX translation on our long-term debt. As you know, we're excluding from adjusted earnings per share the non-cash revaluation of U.S. dollar-denominated debt on the balance sheet, resulting from changes in the CAD U.S. dollar FX rate. That said, our adjusted earnings per share continues to reflect the CAD equivalent debt service costs for the U.S. dollar-denominated debt, which we do have outstanding.
Second, we excluded a CAD 23 million one-time non-cash discrete tax charge of CAD 0.14 per share due to the reevaluation of the company's deferred taxes, which resulted from a change in Alberta's corporate tax rate this quarter. Importantly, in spite of the change in Alberta's provincial corporate tax rate going forward, we are leaving our 2015 effective tax rate guidance unchanged at 27.5%. Operationally, Keith already mentioned that this was a strong quarter with significant improvements in network speed, terminal dwell, and locomotive productivity, culminating in an OR of 60.9%, an improvement of 420 basis points and the second lowest OR in the company's history. Against this backdrop, there are a couple of items I'd like to provide some additional details on.
First, comp and benefits was down about 10% this quarter, with lower stock-based compensation and the efficiencies generated from headcount reductions more than offsetting higher pension expense, wage inflation, and FX headwinds. Nonetheless, for modeling purposes, we expect comp and benefits to trend higher in the second half, reflecting the payout of long-term incentive targets that were established back in 2012. Second, we experienced an uptick in equipment rents, in large part due to FX, but this line item was also impacted by the return of some locomotives we had previously leased to another railroad. Finally, purchased services were also up in the quarter, with efficiencies from insourcing activities outweighed by FX, higher legal and facility costs, as well as a tough comp period on casualty items.
Moving on to cash flow, we've generated $485 million of free cash flow through June thirtieth, which is slightly down versus last year. However, the year-over-year comparison is distorted by the $236 million of cash we received from the DM&E West sale in 2014. Putting that item aside, along with the $60 million of asset sales we've generated so far this year, cash flow is up sharply behind higher pretax earnings and favorable working capital balances. And while we're on the topic of asset sales, I should mention that we have received STB approval on the D&H transaction, so you can expect to see an estimated $215 million of proceeds from that divestiture flow through during the second half of the year.
From a capital standpoint, we've invested $618 million in capital projects year to date. Despite the pressure from the higher currency, we remain on track to spend the $1.5 billion we guided to at the beginning of the year. The last thing I'd like to comment on today is our capital structure. As many of you are aware, we amended the debt covenant on a privately held secured note earlier in the quarter that had a 60% debt to capitalization covenant. This covenant was out of step with the debt covenants in place for CP's other secured notes, so we amended this particular note to 65% in order to align it with the debt to capitalization covenant on our other secured notes.
As a result, we now have approximately $250 million of US-denominated secured notes with a 65% debt to capitalization restriction. At the end of the second quarter, our debt to capitalization level was only 56%. So while we've still got plenty of room on these covenants, we also have the option to take them out at a future date if we determine it's advantageous to do so. Now, admittedly, these amendment negotiations delayed the start-up of our share buyback program, but due in large part to the execution of several private share repurchase agreements, we were able to complete one-third of our existing NCIB program during the quarter, buying back just over 3 million shares at an average price of CAD 193.10 per share.
That means we have approximately 6 million shares remaining under our existing share repurchase authorization, and at our current trading price, we are very comfortable being aggressive buyers of our shares. So to wrap things up from my end, I'm extremely excited to be here. Over the summer, I plan to focus my attention internally, learning as much about the railroad as possible and strengthening my team, but I'll be looking forward to meeting all of you later this fall. So with that, I'll turn the call back over to Keith.
Speaker 12
Okay, thanks, Mark. So in closing to wrap things up here, I can tell you before we open the questions, in the face of market uncertainty, which we spoke to, we felt it obviously was prudent to revise our guidance for the year. If we look forward to the balance of 2015, revenue growth 2%-3% for the year, which was previously the 7%-8% rate, we still anticipate having an operating ratio below 62%.... adjusted EPS of $10-$10.40, which still equates to earnings growth of roughly about 20%, and arguably still the best earnings story in the sector. Now, some of you are going to think low end on the conservative side on the $10, so we wanted to put the right range out there to be responsible.
We obviously do not expect, and we're not shooting for that lower number. We're striving for the higher number, but we are not accustomed to adjusting, revising our earnings if we don't intend to do it again. So that's the reason we put the range in the market that we put in the market. And finally, before I open it up to questions, as I'm sure most of you saw our announcement in early July, unfortunately, Steve Tobias had to resign from the board for personal reasons. Steve has made an invaluable contribution to this board since he joined in 2012. He's not only a great railroad and a leader, but more importantly, a great friend to myself, to Hunter, and to the board. I know that you'll all join me in wishing him well. Rest assured, this board is committed to Steve.
There will always be an open chair at the boardroom table for Steve should he wish to return in the future. With that said, I'll open up for questions.
Speaker 17
Thank you. If you'd like to ask a question, simply press star and the number 1 on your telephone keypad. If you'd like to withdraw your question, press the pound key. As previously highlighted, please limit your questions to 2. There will be a brief pause while we compile the Q&A roster. Your first question comes from the line of William Greene from Morgan Stanley. Please go ahead.
Speaker 26
Morning. Hi there. Keith, I wanted to ask you about the OR. So obviously, in spite of the revenue challenges, very impressive improvement. And of course, I'm sure you saw the competition's number in the mid-50s. So as we see kind of the macro change, the cost story still looks pretty powerful. But if we go back to a world where we're getting growth, are we setting new normals for OR now, or are we gonna have to sort of anticipate that the OR will move higher with revenue over time? How do you think about kind of how this could play out over a longer period of time?
Speaker 12
I think the way it plays out, Bill, is dependent upon the market. In an upside market, when the economy comes back, we obviously can leverage and lower the operating ratio by growing the top line. But I think this performance shows you that even in a downside market, we still can produce, you know... I'll give you, for instance, a $10 billion multiyear plan. Let's just say nothing changes. It's $9 billion at the end of 2018. We don't have crude growth, which we had anticipated in that plan. Taking that into account, we're still gonna get a tailwind from currency. We're still gonna get a tailwind from fuel surcharge. That's 2-3 points if you do the math. So what would have been a 60, arguably, could be a 57. So I think it works either way.
This model works on the upside. It works well on the downside. It's one for the long term, Bill.
Speaker 26
All right. That's very helpful. Thanks for the time.
Speaker 17
Your next question comes from the line of Scott Group from Wolfe Insurance—Wolfe Research, sorry. Please go ahead.
Speaker 18
Hey, thanks. Morning, guys. So just to kind of follow up on the operating ratio question. So obviously, we saw really good numbers from CN, and the prior two quarters, you guys had kind of best-in-class numbers. Why do you think they were able to see a bigger improvement this quarter relative to you? And do you think that there's a timing issue here, where maybe some of the cost reductions can be incrementally coming for you guys?
Speaker 12
Well, I'm not gonna speak to CN's results, but I'll tell you, at CP, we did not have any tailwind from fuel. Obviously, we did not have a lot of tailwind from crop adjustments on the management side. So I'm not sure, but those two could explain the difference.
Speaker 18
Yeah, I guess I was thinking, Keith, more, not asking you to explain CN's results, but do you feel like you got all of the cost reductions that you wanted to get in the quarter, or is that more to come?
Speaker 12
Yeah, I'd say no. I would say, in all honesty, you know, we anticipated a stronger demand environment, the first month of the quarter. Two or three weeks into it, Tech made their announcement. We obviously are very hands-on guys. We get involved, and we started taking immediate action. So there's a little bit of lag there. And then several of the things that we've done, the initiatives that we've enacted are gonna pay dividends in the third and the fourth quarter. So there's more to come from those, for sure. We definitely left some money on the table, if I'm being completely honest with myself about it.
Speaker 18
Yeah. Just to follow up on last point here. I think you guys have talked in the past of bringing the headcount down to around 14,000 by the end of the year. Does this change now, given the weaker volume environment, can that get materially lower than that?
Speaker 12
Yeah, it absolutely does. Right now, second quarter, if I think year-over-year, we're down 700. Again, back to the point of some of the initiatives we've implemented, they're gonna pay off in the third quarter and the fourth quarter. Additional reductions are gonna take us down another 200-300 people in lockstep with the demand. So we're gonna continue to pace demand. If business goes down and demand reduces, then obviously, headcount is gonna go down in lockstep with it, and labor expense is gonna reduce.
Speaker 18
Okay. All right. Thank you, guys.
Speaker 12
Thank you.
Speaker 17
Your next, your next question comes from the line of Fadi Chamoun from BMO Capital Markets. Please go ahead.
Speaker 8
Okay, good morning. Keith, one big part of your long-term goals was pretty dependent on securing top-line growth. Now, you know, we're pretty assured that you're doing pretty good job on the cost side, but for you to get that top line growing, do you feel like you have to change or improve the connectivity of the network with the US carriers or make big step function improvement in terms of your first mile, last mile operation in order to get the ball rolling on the top line side? And if so-
Speaker 12
Yeah, network-wise, I think standalone, the way we are, we're strong, Fadi. I think there's things that we can do that we're acting on now to work closer with our short line customers to extend the reach of the network, to create some additional top line opportunities. This lower cost basis allows us the leverage to be able to do that. You know, Hunter has spoken to this point before about dynamic pricing. Well, dynamic pricing is effectively yield management. So we've got our base cost structure on trains that are running today. Every incremental car that we add, we can add it at a much lower, freight rate, so to speak, and still be positive on the combined contribution of the income of the train. So those are initiatives that we're rolling out. We're in the process of doing it.
I think it's going to continue to allow us to exceed and grow this company's top line. I mean, in the face of what we've done, if you take out energy and you take out US grain right now and look at our numbers, in the face of a negative GDP, we still have positive growth. That tells me the story is working. And as the business comes back with the leverage that we're creating with a lower operating cost structure and an improved service, you're going to see pretty powerful leverage to the bottom line.
Speaker 8
Okay. If we zero in a little bit on the intermodal, whether it's domestic or international, but maybe a little bit more on the domestic side. I know the economy is a little bit weaker now, and so the volume aren't what they could be, but you've been going to market with these new product and new service improvement and all this for a while. Do you feel that you've got more to do on that last mile servicing side, or you think you've got the product that you need to grow this, and grow sort of share from highway over the next two to three years?
Speaker 12
The product is definitely there. We still have work to do, converting market share and competing. But again, you know, in a negative GDP, if I look at domestic intermodal in Canada, negative GDP for two quarters, and we've got positive growth. That says that this story is working pretty powerfully in the face of some pretty stiff competition, be it truck, be it our competitor. So no, I think there's more left work to do for Tim and the team to convert the product, but the product is solid. I'll stand it up against the truck. I'll stand it up against my competitor any day.
Speaker 8
Okay, thank you.
Speaker 12
Thank you, Fadi.
Speaker 17
Your next question comes from Tom Wadewitz from UBS. Please go ahead.
Speaker 22
Yeah, good morning. So, Keith, I know you touched on this at the beginning of the call, but I was just wondering if you had any additional color. The board changes that you mentioned, can you give us a little more insight on maybe what the issue was and to the extent that, you know, you feel like that's behind you? And also, I guess, in terms of kind of Hunter and, you know, how quickly we might expect, you might expect him to be back at work and you know, just a little more, I guess, on his situation.
Speaker 12
Let me, if I can, I'll touch on the Hunter comment, and given that Mr. Reardon's here, I think it's appropriate that he address the board question. I can tell you this, Hunter will not be gone any longer than he has to be. My concern and my influence on him, as much as I can, is that he's gone as long as he needs to be. You know, just last week, you know, Thursday, I think I was on the phone with him for six hours with half the team. You know, he's roaring like a lion. His will and his drive and his tenacity has not been tempered a bit, but his body obviously has got to heal from the procedure that he went through. So contrary to his belief, he's not Superman.
You know, he's a railroad guy, so to speak, but he's not, he's not bulletproof. I'm, I'm extremely pleased for the benefit of this company long term and this team and for our shareholders and our customers, that he's actually taking the time now and listening to the doctor to fully recover. My call is it's short term, it's not long term. With that said, I'll turn it over to Andy to address the board questions.
Speaker 1
Thank you, Tom. With respect to those board questions, let me answer your last question first. Specifically, yes, it is definitely behind us. And to your first question, we've got a very engaged and, and a very passionate kind of a board. I cannot speak to the details of the issue, but I can assure you that our board remains united and committed to serving in the best interest of our shareholders.
Speaker 22
Okay, so you feel confident, though, that whatever the points of disputes were are behind you, the board is, you know, you wouldn't expect further board changes, things are stable, and you're kind of focused on things and go forward?
Speaker 1
Absolutely.
Speaker 22
Yeah.
Speaker 1
Correct in all three statements, yes.
Speaker 12
Fully confident.
Speaker 22
Okay, I appreciate that and wish Hunter the best in terms of a quick recovery.
Speaker 12
Thank you.
Speaker 17
Your next question comes from the line of Walter Spracklin from RBC. Please go ahead.
Speaker 25
Yeah, thanks very much. Good afternoon, or good morning, everyone. I guess if I were to look at your volume growth underpinning the revenue side, I see that you're, you know, you're in the 2%-3% for revenue, but if you're getting about 4% pricing, you know, there's obviously foreign exchange in there, what kind of volume growth underpins that new revenue guidance for 2015?
Speaker 12
Well, I guess, let me point out, pretty strong comparable last year, 'cause we had a grain season that didn't end. We didn't take a normal shutdown in automotive, so we had a lot of movement through all 12 months last year, recovering from that winter. So if I look at that comparable, it's about a 3%-4% area of magnitude down, on the downside from a volume standpoint, Walter.
Speaker 25
Okay. All right, and then longer term, sort of stepping back, I know in your Investor Day, you had indicated some growth rates for four years of 14% merchandise, 12% intermodal, and 5% bulk. If you were to take a stab at, under the new environment and perhaps throwing foreign exchange in there, how might that look? And specifically, with the lower fuel price, does truck become more competitive, and therefore, is the intermodal 12% growth still achievable given a more competitive cost structure on truck?
Speaker 12
Yeah, let me, let me speak to what I feel confident about. Some of that, would I be guessing as far as taking a stab at changing it. But specific to the intermodal, that, that growth rate absolutely is achievable, even in the face of competition from truck or competition from our competitor. You know, our costs are down, our service is improving, our domestic side, in the face of these headwinds, still grows, which is a positive trend, that with a little bit of tailwind and helping the economy, is just going to increase and accelerate. And on the international side, given that we have an adjusted cost basis, we're competing head-to-head with our competitor, for those contracts as they come back for renewal.
So even in a world where energy is a little bit less, again, in that growth story, with the help, assuming that energy is down, FX is going to be similar levels as today, you're going to have lower costs on fuel, I still think it's a very positive story.
Speaker 25
Okay, thank you very much, and please, extend my best wishes to Hunter for a speedy recovery as well. Thanks.
Speaker 12
Will do. Thanks, Walter.
Speaker 17
Your next question comes from the line of Allison Landry from Credit Suisse. Please go ahead.
Speaker 0
Good morning. Thanks for taking my question. First, I guess, how do we think about the longer-term targets that you laid out last October within the context of basically a dramatically different operating environment? You know, in other words, if we're going to see the top line grow at a slower pace than the double-digit revenue CAGR, can you still double earnings by 2018 with the better cost performance that you were talking about?
Speaker 12
Yeah, absolutely, and that's narrow that I talked about earlier. Just say it's a $9 billion revenue story. You get some tailwind from currency and fuel surcharge on your operating ratio. You do the math, and that puts you, you know, the new normal, so to speak, isn't 60, it's 56, 57. You put our buyback with that, and you still double the EPS by 2018. So it's definitely a very doable story.
Speaker 0
Okay, excellent. And then I just have a clarification question on the pricing. I think that you mentioned it was 3% during the quarter. Was that inclusive of mix? I'm just trying to compare to the 4% that you talked about in the first quarter.
Speaker 12
Yeah, the 3% was more on renewals.
Speaker 0
Okay.
Speaker 12
Yeah, absolutely. We see, we see a little more strength in that in the second half than we did in the first half, for the balance of the year.
Speaker 0
Thinking about sort of an apples-to-apples basis on a core, you know, core pricing number, relative to what you talked about in Q1, is it roughly similar?
Speaker 12
It's similar. 3%-4%, it's in that range.
Speaker 0
Okay. Okay, thank you.
Speaker 12
Thank you, Allison.
Speaker 17
Your next question comes from the line of Chris, Chris Wetherbee from Citi. Please go ahead.
Speaker 5
Great, thanks. Good morning. When you think about the outlook for the rest of the year, I mean, what do you see as sort of the biggest potential variables? I mean, with spreads widening out, is it crude by rail? And is that an area where you could be potentially surprised to the upside? I just want to get a rough sense of what, within the commodity mix, are sort of the key areas that we need to be focused on in terms of variance around that sort of 10 to 10-40 range you've laid out.
Speaker 12
Well, I can tell you that when it comes to crude, we're extremely cautious. We have seen some movement in August nominations for increased crude movement, which is encouraging, but at the same time, I'm not going to assume that for, you know, September, October, November, December. So should that happen, that'd be a nice challenge to have. We certainly have the assets parked and idle, waiting for that business to come. We can move it. That's not an issue. I think you're going to see pickup in U.S. grain, obviously, back to more normalized shipping opportunities.
The Canadian grain side, you know, right now, all the final numbers are not in yet on the harvest, but we're expecting an average, maybe a little bit on the low side of an average, a five-year average as far as the harvest. Depending upon how the weather does, there may be upside even in that number, given that there may be some demand to move corn product, which we serve well in our northern part of our US operation up to the Alberta and Saskatchewan markets for feedlots. So there, there's some things out there that could turn favorable for us. We're just trying to take a conservative approach, and again, that's why we made the range as wide as we did it. We just simply don't want to come back and change any numbers again.
Speaker 5
Okay, that makes sense. And then just a follow-up on the buyback. When you're thinking about sort of the, there's a little bit of a pause, obviously, understandably so, in the second quarter. When you think about sort of the outlook, I mean, how do you think about sort of completing that up? I know you said by year-end, I mean, any opportunity to kind of take advantage where the shares are right now and try to get this done sort of shorter term? Just kind of get your thoughts around that.
Speaker 14
Yeah, this is Mark, and what I would say there is, look, one of the most important jobs we have is to, you know, deploy our capital in an efficient way. And at these share levels, we're very comfortable doing that. You know, we did have to take a slight pause. We did acquire 3 million shares during the quarter. You know, we do have some private purchase agreements ready to go in the queue, and right after we get out of the blackout period, we'll execute against those. And then we will be active buyers, you know, at these levels. And that's why we're comfortable saying that we can complete the share repurchase program ahead of schedule.
Speaker 5
Okay. That's helpful. Thanks for the time, guys. Appreciate it.
Speaker 12
Thank you.
Speaker 17
Your next question comes from the line of Cameron Doerksen from National Bank Financial. Please go ahead.
Speaker 2
... Yeah, thanks. Good morning. Just, just one question for me. Just, I just wonder if you can talk about the practical implications of the change in the, SEC reporting requirements. I'm wondering if this maybe, portends a potential switch to reporting in U.S. dollars?
Speaker 14
What I can tell you is that, you know, we've been contemplating this change for a period of time. The biggest difference is that instead of a Canadian 40-F, you would file a 10-K. You know, instead of doing a Canadian 6-K, you'd start doing 10-Qs. You'd have to do XBRL reporting on a quarterly basis versus annually. None of those are things that we think are going to give us any great pause or difficulty. Because of our revenue base, being split as it is between US dollars and Canadian dollars, there is an opportunity for us to potentially continue to report in CAD, and we're working through the SEC's process right now as it relates to that. But in either event, you know, we'll continue to provide accurate and timely financials going forward.
Speaker 12
Yeah. So more to come on our ability to seek and obtain SEC's approval to report in Canadian currency. That's our desire. We just got to make sure they approve it.
Speaker 2
Okay, very good. Thanks very much.
Speaker 17
Your next question comes from line of Matt Troy, from Nomura. Please go ahead.
Speaker 15
Yeah, thanks. Keith, to your earlier question, I just wanted some clarification. You talked about the technology, the remote control for switching and savings of about CAD 12 million per year. I was just wondering if you could maybe clarify what exactly that is. We know we had Beltpack 10, 15 years ago, and that was a big deal. Is this, this residual execution of what prior management didn't do? Or what was the catalyst or what makes this possible now, as opposed to previously?
Speaker 12
Hit the nail on the head. It's an opportunity converting, which previous management did not take an opportunity to convert.
Speaker 15
Okay.
Speaker 12
And then-
Speaker 15
And my follow-up would be simply, I just want to clarify. In comp and benefits expense, it looked like stock-based comp was on a year-over-year basis, favorable to the tune of, I think, $44 million. But in the comments, it was offered that, comp and benefits would trend higher in second half due to longer term targets. I just want to get some clarification around that, if I could. Are you talking about higher sequentially versus 2Q, or higher year-over-year in the back half versus year ago? I just want to make sure we're all thinking about that piece correctly. Thank you.
Speaker 14
Your numbers are, your numbers are generally right. Stock-based comp, in the quarter we just printed, I was showing you was a $46 million benefit. As we sit here today and we look forward, there's really two pieces to the, compensation, element. One, just relates to the stock price itself, and for every dollar, increase in, CP's trading value, there's about a $1 million more stock comp, and I can't be predictive of, of what will happen with respect to that. But that aside, you know, there are some performance share agreements that are in place going back to 2012, and based on where we think those are trending, we believe that there will probably be, higher comp, in the second half in the $20 million-$25 million range.
Speaker 15
Thanks for the clarification.
Speaker 14
Really work.
Speaker 15
Thank you.
Speaker 12
Thank you.
Speaker 17
Your next question comes from the line of Brandon Oglenski from Barclays. Please go ahead.
Speaker 3
Hey, good morning, everyone. And I apologize in advance because we've been having some telephone problems here. But Tim or Keith, I just wanted to come back to the growth outlook in the back half because I think, Tim, in your prepared remarks, you talked about things, if I understood it correctly, getting sequentially better, which is pretty normal, I think, for seasonality. But from a comp perspective, it does get more challenging, I believe, from an RTM basis. So are you calling for some sequential acceleration in some of your bulk markets where we can get RTMs close to flat, or are we still going to be looking at negative comps across the network?
Speaker 23
Well, at this point in time, we believe that we're going to be coming in. You know, we look at the three different lines of business and the challenges on the bulk side, we hope to come in flat by the end of the year. On the international and the domestic intermodal, we do hope to come in just a little bit above our plan. And as far as the probably not coming above our plan, but to come in on our plan. And then as far as our merchandising side, we are still going to be challenged with the different commodities. But with the commodities, not knowing the certainties of that market, we really can't give you any definitive answer at this point in time.
Speaker 12
Look, we have a lot of upside to, we think from a volume standpoint, probably about sequentially year-over-year, compare second half this year to second half last year, which were very strong comps. It's about 3%-4% less.
Speaker 3
Okay. Got it, Keith. I appreciate that too, Tim. And then, Mark, just, you know, thank you for the compensation assessment. I think when you said that CAD 25 million, that would be thinking sequentially from where we were in 2Q, right?
Speaker 12
Right.
Speaker 3
In the answer to the last question.
Speaker 12
Yes.
Speaker 3
Okay. And on the purchase services side, I know, last quarter, there were a lot of moving pieces, but we jumped up to, you know, roughly $275 million this quarter. How do we think about that going forward, purchase services and other?
Speaker 14
Yeah, I would expect to see that, you know, trend a little bit lower into Q3, but it is an area that there is some, you know, volatile items contained within. So it's hard to be completely predictive, but I would expect to see that come down just a little bit in Q3.
Speaker 3
Okay, appreciate it.
Speaker 17
Your next question comes from the line of Benoit Poirier from Desjardins Capital Markets. Please go ahead.
Speaker 2
Thank you very much. My first question is related to domestic intermodal. I was just wondering, so far in the quarter, your trend - your carload trending kind of down 4%, so a discrepancy versus international. Is it more a matter of the Western economy, or is there any implication on the market share side? And I'm just wondering if there will be any change in the strategy given the new management change in intermodal?
Speaker 12
... It's actually a mixed issue, Benoit. So when you see from a volume standpoint on a carload basis, the business that's down is actually the stuff that's a little more suspect to the economy, which is our Expressway service between Montreal and Toronto. So carloads are down, but our turns are not very significant. What's up for us, which is a trend that we feel very good about, is converting the long-haul service domestic, for instance, east to west, which is driving our RTM growth. So it's a mixed issue trying to understand that. As far as strategy, strategically, the strategy is not gonna change with the leadership changes. Jacqueline has taken over the group. She's obviously a very well-equipped, seasoned railroader. She certainly understands our network. She's hit the ground running. She's out with Tim.
She's meeting with our key customers. She'll drive a level of accountability in that team from a revenue standpoint, similar to what we drive on the operating side. I feel very confident about that, and she'll convert this product. So I've got a tremendous amount of faith and support, and very strong optimism that this is gonna be a growth story that's gonna exceed your expectations on the intermodal side. And also, some additional additions you see, don't see at a more senior level. Tim has brought some of his knowledge to the table as far as talent. He's recruited some external candidates that are being very accretive to us on the international side, that certainly understand the markets and understand the opportunities.
Speaker 2
Okay, perfect. Very good color, Keith. My second question, if we look at automotive, you're down 17% on a carload basis quarter to date, but if I'm right, you're overlapping the tough compare with Chrysler. So any color on the automotive side, what we should expect in the near future?
Speaker 12
Actually, that's a little bit misleading. Let me just for the record, that contract ended end of July. There was a transition time. If I step back to last summer, we had a transition time with, with CN, who took that Chrysler contract, or the lion's share of the Chrysler contract, which delayed and allowed us an opportunity to still move some of their traffic in August and a little bit in September. So to get a true clean compare, you're really gonna have to get to a September number. If you back out the noise from the Chrysler business, we're actually up, so it's a positive trend as well.
Speaker 2
Wow, okay. And just on the coal side, you're up 15% in the quarter, so very good performance on the quarter side. But, what should we expect, given Teck's announcement of production slowdown in Q3? And any color on the expectation for Q4 for coal?
Speaker 12
The growth that we've enjoyed has actually been on the US side, which was not a huge piece of the overall portfolio in coal, and specific to tech, we're expecting flattish volumes. So they're taking rotating shutdowns, they're doing maintenance, but at the same time, if I look at last year's number, the run rate and what we expect is around that 25 million metric tons. The positive story to that, the opportunity that we're converting both for tech and for ourselves, is reducing our cost base. So the contribution on the business is going to improve, has improved. We're running that business now with 17 coal sets. The story before, go back to 28 or 29, fewer locomotives, fewer people.
The cycle times, both for tech at the mines as well as at the port and on the railway, are hitting record, record, record numbers. I'm talking numbers below the 100, 100-hour cycles. A year ago, they were probably 110, 115. Now we're down in the 90s. So another very compelling story that allows you to take this operating model, and while the revenue growth might not be there, you can certainly control the bottom line and still add contribution and operating income.
Speaker 2
Okay, very good color. Thanks for the time.
Speaker 12
Thank you.
Speaker 17
Your next question comes from the line of David Vernon from Bernstein. Please go ahead.
Speaker 7
Good morning. Just as a first question on pricing, I think you guys mentioned that price mix was plus 4% on an RTM basis. Can you talk a little bit about how much of that was core pricing versus mix?
Speaker 12
Sure, absolutely. About 2.93% was core, the balance was mix.
Speaker 7
Excellent. And anything changing on the core pricing side right now, as far as kind of getting better, getting worse, as you guys feel the market right now?
Speaker 12
We actually see a little bit of uptick in the second half versus first half.
Speaker 7
Okay. And then maybe just on the operation side, Keith, can you talk about how much of a role, if any, the lower volume played into terminal productivity and velocity improvements? And whether there's any risk that, if, when volume growth returns, you might have to give back some of that, productivity gain?
Speaker 12
Absolutely not. We're not gonna give it back. The role that it plays is it motivates you to make sure you've got people doing the right thing and managing all the costs, controlling their costs. I mean, it obviously motivated me to go to Winnipeg to take a look at what was going on and uncovered quite a few opportunities. Saw a lot of things that were going right, but a lot of things were still missing. I mean, I remind folks, Rome wasn't built in a day. We're not gonna change this culture in three years. We've converted a tremendous amount, but at the same time, this is a big network.
So as we convert through leadership, as we teach consequence leadership, as we create this culture of accountability in our terminals and on our leads and with our employees and the finance shop and across the board, so to speak, and even in Tim's shop, with revenue and accountability, with our commission sales program, you're gonna continue to drive additional opportunities. So from a productivity standpoint, there's still mountains of accomplishments left to achieve in this company.
Speaker 7
All right, thanks for the clarification.
Speaker 12
Thank you.
Speaker 17
Your next question comes from the line of Ken Hoexter from Bank of America Merrill Lynch. Please go ahead.
Speaker 13
Great. Good morning, Keith. Can you talk a little bit more? You mentioned briefly the dynamic pricing. Can you kind of walk through how that's been rolled out? Do you find yourself leaving some more on the table given, you know, some other rates are being taken up maybe a bit more aggressively, and how you're winning business with that, with that dynamic pricing trend?
Speaker 12
The dynamic pricing trend, it's starting to gain a little momentum for us. I'll talk in very simple terms about the way it works. So this isn't, this isn't about going out and cutting our price. This is about understanding where we have capacity based on existing trains, on a train-by-train basis, on a lane-by-lane basis, and going to some existing customers. If they want to increase the share that they give us, then they'll recognize on a sliding scale, a little bit of a rate reduction. But overall, the contribution per car, the bottom line is gonna be positively impacted by it. And it's also about going to customers that we don't enjoy their freight today, knocking on doors, converting truck through a lower cost, and it's about controlling it. This isn't long term, a long-term strategy.
It's actually reacting to the demand market that we're into. So I'm talking specifically to, if I'm a salesperson, going and knocking on somebody's door and say, "Listen, in exchange for a commitment to move your freight over the next 30 days, this is what your rate's gonna be. And we're gonna add you to existing service. We're gonna review this on a weekly basis. We're not gonna allow it to add train starts. We're gonna allow it and use it to grow the number of cars that are on our existing train." So it goes almost straight to the bottom line. It's very, very powerful operating leverage.
Speaker 13
If I can just do a follow-up with my second question. You talked a bit about the board changes before. I just want a little clarification, 'cause you mentioned to start that the resignations were because of, specifically because of corporate governance issues, and you obviously had one member of management that was old CP and one that was post the proxy battle. Just wondering if you can be maybe a bit more explicit, given that you did state there were corporate governance issues. Is that something we should be concerned of, if on the financial side, on the management side, anything you can kind of extrapolate on that?
Speaker 1
Andrew Reardon, I'll be happy to answer that question. No, it was purely a matter of board governance, and the issues, as I noted a few moments ago, are clearly behind us. Board governance is a very serious matter that this board embraces and will continue to embrace. But no, there are no further changes contemplated, nor expected. We're anxious to move on into the future.
Speaker 12
If I could add a little color to that, put this in perspective. Andy was the chair of the finance committee, he's now the chair of the board, so that should give you some assurance that there's no issues of concern in that area.
Speaker 13
Appreciate that insight. Thank you for the time.
Speaker 17
Your next question comes from the line of Turan Quettawala from Scotiabank. Please go ahead.
Speaker 24
Yes, good morning. Keith, I just, on the guidance side, I hear what you said about not wanting to cut your guidance, you know, more than once in the year, and also about what you said on the cost side and the catch-up, I guess, on the cost side. I guess my question is, 2%-3% top line growth, if that comes in weaker, is it sort of safe to assume now that there's enough flexibility on the cost side that the EPS number doesn't have to change too much?
Speaker 12
Absolutely.
Speaker 24
I guess my second question on the marketing side, you talked about competing with CN, I believe, on some market share on the domestic intermodal side, on some contracts. Are you willing to share some maybe with us, what the head trade might be for you?
Speaker 12
The comments on competition with our competitor is more related to international intermodal. It's not the domestic.
Speaker 24
Oh, I-
Speaker 12
You know, obviously, there's a competitive market out there on the domestic side as well, but you can tell by our RTMs that we're faring well in that competition, so.
Speaker 24
Okay, fair enough. Thank you.
Speaker 12
Thank you.
Speaker 17
Your next question comes from the line of Steve Hansen from Raymond James. Please go ahead.
Speaker 19
Oh, yeah. Hey, guys, just a single one from me as it relates to the crude and the, I guess, more specifically, the crude mix. Just trying to get a sense of where you might be seeing some of those cautious signs of optimism in which lanes, whether it be to the Gulf, et cetera, and, and how you see the sort of the distance evolving here over the next sort of 12 months or so.
Speaker 12
No visibility to the distance. I'm a little bit apprehensive about looking beyond August, but the strength that we are seeing, some of the signs of hope are actually on the heavy side, more Gulf destinations.
Speaker 19
And are you seeing weakness, conversely, in any of the Bakken or the Dakota originations?
Speaker 12
You know, we're partnering with very good players. They're low-cost producers. We're seeing sustained demand there, so we're not seeing any weakness.
Speaker 19
Okay, helpful. Thanks.
Speaker 12
Thank you.
Speaker 17
Your next question comes from the line of Brian Ossenbeck from J.P. Morgan. Please go ahead.
Speaker 4
Hey, good morning. Thanks for taking my call. So just to follow up on crude by rail, you know, it seems like, there's a little bit of a shift maybe in the market structure in the Western Canada region. You had a high-profile rail terminal that was, changed hands, basically, a sizable discount was originally constructed for. I know some discussions of cutting transportation price in order to stimulate some demand. So, I don't know if you can speak to that, if that's the source of any of, any of the caution, or if it's just more on the, on the spreads and waiting for those to, to stabilize and remain at, and remain at healthy levels.
Speaker 12
It's all, it's all tied to the spreads. So if the spreads improve, the appetite, the need, and the economics are there to move the heavies. So that's what we're seeing.
Speaker 4
Okay. And just a quick second one. Keith, last time, you know, we talked about the ECP brake mandate that actually went into effect shortly after we spoke on the last conference call. So I'm assuming your view hasn't really changed on that, but is that something that you feel CP and the industry really have to start to prepare for implementing? And I guess kind of the two questions that come to mind is, how much pressure would that put on the crude by rail spread if you start to have more equipment that's mandated to move it? And then is this something you need to basically equip the entire locomotive fleet to ensure interoperability, or can you kind of segregate, hive off your crude by rail...
High hazardous flammable trains into one section versus the other ones that don't need that sort of equipment if it comes to pass? Thanks.
Speaker 12
Segregation and trying to isolate locomotives would be extremely disruptive to the network.
Speaker 4
Mm-hmm.
Speaker 12
It'd be extremely disruptive to the industry. So that's not something that I would be encouraged about doing in any regard. We've got to have interoperability. We've got to have an ability to take a locomotive off a crude train and put it on a freight train, put it on an intermodal train. So I'm not gonna create a dedicated set of locomotives for crude. With that said, the ECP initiative, although it was mandated, it's being debated now. It's currently. I don't want to speak out of context here, but there's some changes which defer that are included in a bill that's being debated in Congress now on the U.S. side.
Speaker 4
Right.
Speaker 12
Suffice it to say that, that fight is not done yet. I happen to believe that cooler heads will prevail. Once people truly understand how disruptive it will be to this industry, how disruptive it will be to all freight movement, not just crude movement, I just don't think that that's gonna be followed upon. We'd much rather take the money, take the investment, and spend it on safety enhancements that truly benefit the public, not something that's been created by some misinformation that allowed that to get passed in the first place.
Speaker 4
Okay. Thanks for your time, Keith.
Speaker 12
Thank you.
Speaker 17
Your next question comes from the line of Jeff Kauffman from Buckingham Research. Please go ahead.
Speaker 10
Thank you very much, and congratulations. A tough quarter. I just wanted to get a clarification on something you said earlier, and then I have an operating question for Keith. Did you say that mix was a +3 to the quarter or a -3 to the quarter? When you were talking about price mix on an earlier question.
Speaker 12
It was +1%.
Speaker 10
1%. Okay, thank you. I, I didn't hear that clearly. Keith, you have a lot of track projects coming on. In a slower volume environment, you said you were losing a little bit more unit train business than manifest. Can you talk about kind of the next phase of getting to longer train lengths and heavier trains? I know the near-term environment is slowing that down a little bit, but what capital projects do you have going on, and where do you think you can take train length, say, over a 12-month period and further out, say, over a 2- to 3-year period?
Speaker 12
Look, it's obviously slowed us down a little bit, but over the 2- to 3-year period, I don't see a lot of change. I still, you know, not quantum leaps, but certainly if I'm running trains today at almost 7,000 feet on average, aggregate, you're gonna be 72, 73. These lanes that we've had some of this reduced business, we're still spending money. So we've cut back some of the capital. We're not adding the capacity where we don't need it, but we're still driving our investment with that $1.5 billion number, adding the sidings, increasing tracks, you know, track speed, putting ballasts down, that will create an ability to create additional operating leverage. In some other areas that still have yet to become, that's going to bore additional opportunities. I'll give you, for instance, right now, we run export potash trains.
We've got two different models. So Canpotex is the customer. We're running a 170-car model to the West Coast to their export facility. We're running a 130-car model to the US West Coast via our connection with UP. If you can get those homogenized and increase that length and get one solid set, there's definite ownership synergies for Canpotex. There's cycle turn synergies for both Canpotex as well as CP and UP, and that's an area that we're continuing to invest in. So in lockstep with our investments, UP's investing. They're currently under a capital expansion plan at the facility where it goes in Portland, Oregon.
2016, you'll see, in spite of the headwinds of business, you'll see that get homogenized, and you'll see another step to improvement that will be accretive and help us on improving train length. So that's just one of many several initiatives that we've got in the multiyear plan that are gonna allow us to continue to increase it.
Speaker 10
Okay, Keith, thanks so much and congratulations.
Speaker 12
Thank you.
Speaker 17
Your next question comes from line of Thomas Kim from Goldman Sachs. Please go ahead.
Speaker 21
Good morning. Thanks for your time. Yeah, management's done a fantastic job driving down the OR, you know, despite pretty modest volumes over the last few years. And as we look forward to 2016, I'm wondering, how comfortable are you with consensus revenue assumptions of sort of a rebound back to sort of that 7%-8% level? And then, to what extent do you actually need volumes to grow to see your OR improve further next year?
Speaker 12
Well, I'll take, I'll take the OR question, and I'll let Tim handle the revenue question. You know, we can have very conservative growth on the demand side, and with the synergies we're creating on the operating side, we can still improve the operating ratio. I feel very confident about that. There's still much more to be done. So even in a down environment, I would say a similar environment to what we're facing today, you're gonna see operating ratio improvement. Tim, you want to address the revenue question?
Speaker 23
Sure. On the revenue rebound, still too early to tell. All I can tell you is that we're doing 100% to go out and make sure we get everything that we can, but it's still just too early to tell at this point in time. Thank you.
Speaker 21
All right. I'll leave it at that. Thanks very much.
Speaker 12
Thank you.
Speaker 17
Your next question comes from the line of Jason Seidel from Cowen and Company. Please go ahead.
Speaker 9
Thank you, guys, for the time. Hey, Keith, you know, I want to jump back on domestic intermodal. Obviously, a little bit of pressure in the quarter. You mentioned that some of it was hard year-over-year comparisons. I was just curious, do you feel you've maybe lost a little bit back to the highway as trucking capacity has loosened up a bit?
Speaker 12
Well, back to my points about domestic and the Montreal, Toronto market, we absolutely have. But overall, if I look at the base of the core network, the balance, I'd say no.... We've got to recognize and realize that last year, year-over-year, we grew about 15%, which was in addition to the 12 or 15% from the previous year. So you know, we're looking at the last two years, about 30% growth in domestic intermodal. So once you start comparing yourself to that, it's a little bit harder to make those kind of quantum leaps. But I'm extremely encouraged, again, in the face of these very uncertain economic times, in the face of a pullback in GDP in Canada, we're still growing, from an RTM standpoint.
I think that's a very, very positive sign that just says, assume the same, we're gonna continue to compete, we're gonna continue to win business, and as the economy comes back, it's pretty powerful leverage on the other side to take us straight to the bottom line.
Speaker 27
Just a quick clarification. You mentioned on the tax rate, 27.5%. Is that for the year or for the back half of the year?
Speaker 12
It's for the full year.
Speaker 27
Okay. Thank you, gentlemen, for your time.
Speaker 17
Your next question comes from the line of David Tyerman from Canaccord Genuity. Please go ahead.
Speaker 6
Yes, good morning. I just wanted to ask about your comment, Keith, about expecting to maintain the EPS growth through 2018, in the face of even if volumes decline. So if volumes decline, obviously, your top line is worse. As you pointed out, the OR will come down, but that is mainly because, I imagine, because of the fuel effect, and that's supposed to be zero profit impact. So I'm wondering, you wouldn't you have lower profitability under a lower volume environment in that scenario?
Speaker 12
Well, let me, let me try to explain it this way. Our revenue story, in your model, we talked about crude being a, a big piece of it, or a, let's say, $1 billion of it by 2018. Just discount that. Take $1 billion out of it. So we've got effectively similar levels of crude that we move today. We're still gonna grow on the merchandise side. We're still gonna grow on the intermodal side. We're still gonna convert to service. So instead of $10 billion, it's $9 billion. Now, given that crude isn't there, I'm gonna make the assumption that we're gonna get the same help that we would today with FX, as well as our fuel surcharge. That's two to three points.
So if you do the model, a 60 operating ratio, given those prevailing conditions in 2018, is not a 60 operating ratio, it's a 57. It's a 56, 57, 58. A range of numbers that are very low, that if you combine that with a $9 billion revenue base and our buyback program that we're executing, you double the EPS.
Speaker 6
Okay, it just seems to me that you would be losing something here. I understand the math you're talking about here, but it sounds like compared to the previous situation, that you're in a worse position if you lose $1 billion of revenue.
Speaker 12
Not with currency. I'm not,
Speaker 6
The currency is the difference then, it sounds like?
Speaker 12
Well, the help from the currency. I mean, the difference is obviously our assumptions on revenue, the top line is not gonna be there. If it's at 9, if it's at 10, crude doesn't exist. It's not the growth story we thought it was. With our operating performance and our leverage, we don't have it today, and we're producing close to that 60 number. Do the math. I'm assuming, again, that you've got the help from currency and fuel surcharge, a 60 is a 57.
Speaker 6
Okay. That's fine. I won't go further on it. Just the other question I had was on asset sales. Aside from the Delaware and Hudson, is there anything else that you expect in the second half on asset sales, maybe related to the extra properties you have?
Speaker 12
Nothing at this time.
Speaker 6
Okay. Thank you.
Speaker 17
Your next question comes from the line of Steven Paget from FirstEnergy Capital. Please go ahead.
Speaker 20
Good morning, and thank you. Best wishes to Mr. Tobias and Mr. Harrison, and also welcome, Mark, to the call. First question, Keith, given your comments to Fadi on revenues, are you starting to see comparable margins on the smaller and shorter hauls as you might see on bulk unit trains?
Speaker 12
From a margin standpoint? I mean, it all depends on the line of business. On the merchandise side, we obviously have favorable margins compared to some of the bulk business. So it's a tough question to answer. I'd say in general, the margins are strong, and they're even better on the merchandise, even if it's shorter haul. I mean, effectively, we still have the discipline when it comes to our pricing. Our cost base is lower. Our RCRs are improving with our costs coming down, so we still see margin improvement on the short haul as well as some of those longer hauls.
Speaker 20
Thank you, Keith. Second question, terminal dwell down 22%, network speed up 21%. What does this mean for improvement in car travel time? Could we say that a car got from source to destination 25% faster than in the second quarter of 2014?
Speaker 12
That's, that's a fair assumption. But, but obviously, what it allows us to do on the leverage, operating leverage side is take assets out. So effectively today, you know, we have 20% fewer cars online than we did last year, same time. So it's not exactly a one-to-one correlation, but it's very similar what it allows you to take out. From a locomotive standpoint, again, 20-21% fewer locomotives. That's about 250 less locomotives. And the terminal dwell story, as I've said, actually this quarter, it's improving over second quarter, so there's more to come there.
Speaker 20
Thank you. Those are my questions.
Speaker 17
Your next question comes in line of John Larkin from Stifel. Please go ahead.
Speaker 11
Good morning, everybody, and thanks for taking my question. There was a lot of talk earlier, mostly from Mark, about the notion of moving all the debt agreements so that they had a common debt to total cap covenant of 65%. And that currently the leverage is somewhere around 55 or 56, so that implies you got a lot of room to move. Does that suggest that without much of a cut, if any, in your CapEx program, that you'll continue to add incremental debt as you continue to buy shares back at roughly the same pace of about CAD 500 million a quarter? And at what point, as you do that, do the rating agencies start to sit up and take notice?
Is there any point along that curve where there's a risk of a lower rating being achieved here?
Speaker 14
Good question. We finished the quarter with a debt-to-EBITDA ratio of 2.2. You know, we're very comfortable operating in the range of anywhere between 2-2.5. You know, for short-term opportunities, we could even see ourselves going a little bit beyond that. You know, the cash generative abilities of this railroad are so strong that we can easily delever rapidly if we choose to do so. We have had conversations with the rating agencies. We've spoken with them very recently. We've explained to them the value that we see in buying our shares at these levels. And so we've been keeping them fully apprised. So we think we have a lot of opportunity within our current rating structure to continue to be aggressive buyers of the shares.
Speaker 11
Got it. Thank you for that. And then, as the second question, with the big operating ratio drop here year-over-year, even with the decline in volume, how much do you figure... What, what percentage of that drop do you think was related to the big drop in the zero margin fuel surcharge revenue? It looks like it, it could have accounted for most of the drop. Is that a fair way to read it, or is there something else going on here?
Speaker 14
So of the drop, only about 200 basis points related to fuel directly. Over half of it was operationally driven.
Speaker 11
Roughly half fuel, half efficiency?
Speaker 14
Correct.
Speaker 11
Thanks very much.
Speaker 17
Mr. Creel, there are no further questions at this time. Please continue.
Speaker 12
Okay, so before we wrap up, there's one point I want to clarify on pricing, then there may be a little bit of confusion out there. Same-store pricing, first quarter, we had 3.8%, second quarter, roughly 3%. The back half, we expect about 3.6%. The timing of the contracts is what has the influence. So just for clarification for your models, that's effectively a little bit more color and specific detail on where we stand on the pricing standpoint. So that's it. Thank you for your support. Thank you for the questions and the time spent today, and we look forward to sharing our results with you next quarter.
Speaker 17
This concludes today's conference call. You may now disconnect.